What is the value of a share that has just paid a dividend of $1, growing at 5% and a required rate of return of 10%?
Question
What is the value of a share that has just paid a dividend of $1, growing at 5% and a required rate of return of 10%?
Solution
To calculate the value of a share that has just paid a dividend, we can use the Gordon Growth Model (also known as the Dividend Discount Model). The formula is:
P = D / (r - g)
where: P = price of the stock D = dividend just paid r = required rate of return g = growth rate of the dividend
In this case, D = $1, r = 10% or 0.10, and g = 5% or 0.05.
Substituting these values into the formula, we get:
P = 1 / (0.10 - 0.05)
Solving this equation gives us:
P = 1 / 0.05
So, the value of the share is $20.
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