Question 1

All else constant, a decrease in the stock price will increase the dividend yield of a stock

Accepted Answer

Dividend yield is calculated by dividing the annual dividend amount by the stock price. If the stock price decreases while the dividend amount stays the same, the dividend yield will increase.

Question 2

Dividends on the common stock of Stable Inc. are expected to grow at a constant rate forever. If
you are told Stable's most recent dividend paid, its dividend growth rate, and a discount rate, you
can only calculate the price now, from the past and into the future.

Accepted Answer

This is the basic formula for the dividend discount model and assumes that the growth rate remains constant indefinitely.

Question 3

Assume the anticipated growth rate in dividends is constant for Fly-By-Nite Airlines. The expected
value of the ﬁrm's stock at the end of four years (P4) can be calculated using D5/(r - g) and P0 × (1 +g)4.

Accepted Answer

The first formula is the Gordon growth model, which is used to calculate the value of a stock that is expected to grow at a constant rate. The second formula is the formula for the future value of a lump sum, which is used to calculate the value of a stock that is not expected to grow.

Question 4

If one uses the constant growth model to value stock, one assumes that P1 = P0 × (1 + g), P2 = P0 × (1+ g), etc.

Accepted Answer

The constant growth model assumes that dividends grow at a constant rate (g), not the stock price. The correct formula is P0 = D1 / (r - g), where D1 is the expected dividend next year, r is the required rate of return, and g is the growth rate of dividends.

Question 5

The dividend growth model assumes that dividends increase at a constant rate forever.

Accepted Answer

The dividend growth model assumes that dividends grow at a constant rate indefinitely into the future. This assumption may not hold true for all companies in all situations, but it is a common simplifying assumption used in financial modeling.

Question 6

All else constant, an increase in the dividend amount will increase the dividend yield of a stock.

Accepted Answer

Dividend yield is calculated by dividing the annual dividend per share by the current market price per share. So if the dividend amount increases while the share price remains constant, the dividend yield will increase because the numerator (dividend per share) has increased.

Question 7

According to the constant growth model, the dividend yield is equal to the required return minus
the dividend growth rate.

Accepted Answer

In the constant growth model (also known as the Gordon Growth Model), the dividend yield is indeed calculated as the required rate of return minus the dividend growth rate. This model assumes dividends grow at a constant rate indefinitely.

Question 8

An increase in the required return on a stock will decrease its market value, all else the same.

Accepted Answer

When the required return on a stock increases, it means investors demand higher returns in exchange for taking on the risk of investing in that stock. This, in turn, will decrease the stock's value because its future cash flows are discounted at a higher rate, making them worth less in today's dollars. All else being the same, the stock's market value will decrease.

Question 9

The total rate of return earned on a stock is comprised of the dividend yield and the capital gains
yield.

Accepted Answer

This is correct. The total rate of return on a stock is calculated by adding together the dividend yield (which is the dividend payment as a percentage of the stock price) and the capital gains yield (which is the percentage change in the stock price).

Question 10

Dividends received by both individuals and corporations are fully taxable.

Accepted Answer

Dividends received by both individuals and corporations are subject to taxation. Individual shareholders will pay taxes on their dividends at their ordinary income tax rate, while corporations may have to pay taxes on their dividends as part of their overall corporate tax liability.

Question 11

A decrease in the dividend growth rate will increase a stock's market value, all else the same.

Accepted Answer

A decrease in dividend growth rate signals that the company may not be performing as well as previously thought, which could lead to a decrease in demand for the stock and a decrease in its market value.

Question 12

Dividends on the common stock of Stable Inc. are expected to grow at a constant rate forever. If
you are told Stable's most recent dividend paid, its dividend growth rate, and a discount rate, you
can only calculate the price into the future.

Accepted Answer

The information given allows you to calculate the current price of the stock using the Gordon Growth Model (Dividend Discount Model for a perpetually growing dividend), not just the price into the future.

Question 13

If one uses the perpetuity model to value stock, one assumes that P0 = P1 = . . . =  , implying that the annual return from owning the stock is zero.

Accepted Answer

The perpetuity model assumes that the stock will pay a constant dividend indefinitely, and uses the formula P0 = D / r to value it, where D is the annual dividend and r is the required rate of return. It does not assume that the annual return is zero.

Question 14

All else constant, a decrease in the dividend amount will increase the dividend yield of a stock.

Accepted Answer

Dividend yield is calculated as the annual dividends per share divided by the price per share. If the dividend amount decreases and the stock price remains constant, the dividend yield will decrease, not increase.

Question 15

All else constant, an increase in the stock price will increase the dividend yield of a stock.

Accepted Answer

Dividend yield is calculated as the annual dividend per share divided by the current stock price. Therefore, if the stock price increases while the dividend remains constant, the dividend yield will actually decrease because the denominator (stock price) has increased. Similarly, if the stock price decreases, the dividend yield will increase.

Question 16

When the constant dividend growth model holds, g = capital gains yield.

Accepted Answer

In the constant dividend growth model, the capital gains yield is equal to the growth rate (g) of the dividend. Therefore, when the constant dividend growth model holds, g = capital gains yield.

Question 17

The total return on a share of stock = dividend yield + capital gains yield.

Accepted Answer

This statement is true. The total return on a share of stock is calculated by adding the dividend yield (the annual dividend payment divided by the current stock price) and the capital gains yield (the percentage increase in the stock price over a certain period of time).

Question 18

Dividends on the common stock of Stable Inc. are expected to grow at a constant rate forever. If
you are told Stable's most recent dividend paid, its dividend growth rate, and a discount rate, you
can only calculate the price now.

Accepted Answer

To calculate the price of a stock using constant growth dividend model, we need to have the most recent dividend paid, the dividend growth rate, and the required rate of return. If any of these values are missing, we cannot calculate the price.

Question 19

Dividends paid by a corporation can reduce the taxable income of the corporation.

Accepted Answer

Dividends paid by a corporation are not deductible from the corporation's taxable income; they are paid out of the after-tax profits.

Question 20

The dividend growth model can be used to compute a stock price at any point of time.

Accepted Answer

The dividend growth model uses the expected dividend per share, the required rate of return, and the expected dividend growth rate to estimate the intrinsic value of a stock. This can be used to compute a stock price at any point in time.

Quiz 8: Stock Valuation

All else constant, a decrease in the stock price will increase the dividend yield of a stock

Dividends on the common stock of Stable Inc. are expected to grow at a constant rate forever. If you are told Stable's most recent dividend paid, its dividend growth rate, and a discount rate, you can only calculate the price now, from the past and into the future.

Assume the anticipated growth rate in dividends is constant for Fly-By-Nite Airlines. The expected value of the ﬁrm's stock at the end of four years (P4) can be calculated using D5/(r - g) and P0 × (1 +g)4.