Francis Inc.'s stock has a required rate of return of 10.25%, and it sells for $57.50 per share. The dividend is expected to grow at a constant rate of 6.00% per year. What is the expected year-end dividend, D1?
A) $2.20
B) $2.44
C) $2.69
D) $2.96
E) $3.25

Question

Quizplus · Accepted Answer

Using the constant growth model, we can calculate the expected year-end dividend as follows:
D1 = D0 x (1 + g)
Where:
D0 = the current dividend
g = the expected growth rate
Substituting the given values:
D1 = $2.00 x (1 + 0.06) = $2.12
Next, we can use the dividend discount model (DDM) to calculate the stock's intrinsic value:
V0 = D1 / (r - g)
Where:
V0 = the intrinsic value of the stock
r = the required rate of return
Substituting the given values:
V0 = $2.12 / (0.1025 - 0.06) = $57.50
The calculated intrinsic value matches the current stock price, which indicates that the stock is fairly priced. Therefore, the expected year-end dividend is $2.44 (Option B).