Question

6. Martin Spencer, Inc. (MSI) stock is expected to pay a dividend of $3.00 at the end of the year. Dividends are forecasted to grow at a constant rate of 3%/yr. indefinitely. The appropriate required return for valuing this stock is 8%/yr. a. Calculate today's price for MSI stock. b. Calculate the price if 'g' is expected to only be 2%/yr. c. Calculate the price if 'g' is expected to be zero.

Answer 1

Dividend expected to be paid at the end of year = D₁ = $3

The growth rate of Dividends = g = 3%/yr

required rate of return = r = 8%

Part a

According to Gordon's growth model, the price of the stock is given by:

P = D₁/(r - g)

Price of the stock = P = 3/(8% - 3%) = 3/5% = 3/0.05 = 60

Answer a -> Toaday's price for MSI stock = $60

Part b

Now, g = 2%

P = D₁/(r - g) = 3/(8%-2%) = 3/6% = 50

Answer b -> Price if g is 2% = $50

Part c

if g = 0

P = D₁/(r -g) = = 3/(8% - 0) = 3/8% = 37.5

Answer c -> Price if g is zero = $37.5