The current dividend yield on CJ's common stock is 1.89 percent. The company just paid an annual dividend of $1.56 and announced plans to pay $1.70 next year. The dividend growth rate is expected to remain constant at the current level. What is the required rate of return on this stock?

Question

Quizplus · Accepted Answer

The required rate of return can be calculated using the Gordon Growth Model (Dividend Discount Model for a perpetuity) formula: Required Rate of Return = Dividend per Share / Current Market Price + Growth Rate. Given the dividend growth rate is constant and the dividend is expected to increase from $1.56 to $1.70, we can calculate the growth rate as ($1.70 - $1.56) / $1.56 = 0.0897 or 8.97%. The current dividend yield is given as 1.89%, which is essentially the Dividend per Share / Current Market Price. Since the company just paid a dividend of $1.56, and using the dividend yield, we can calculate the Current Market Price = $1.56 / 0.0189 = $82.54. However, for the purpose of calculating the required rate of return, we directly use the next year's dividend ($1.70) and the growth rate. The formula simplifies to Required Rate of Return = ($1.70 / $82.54) + 0.0897. The calculation provided directly does not match this process because the dividend yield provided and the growth rate calculation are meant to lead us to the correct formula application: Required Rate of Return = Dividend Next Year / Current Price + Growth Rate. The correct approach is to use the given information more directly: Required Rate of Return = $1.70 / (Current Price) + Growth Rate. Since the exact current price is not directly provided, we use the dividend yield and growth information to infer the required rate of return, which involves understanding that the dividend yield and growth rate contribute to the total return expectation. The correct answer, based on the information provided and typical formula application, seems to be a misunderstanding in the explanation process. The actual calculation should involve the dividend growth model: Required Rate of Return = (Next Year's Dividend / Current Price) + Growth Rate. Given the dividends and the growth rate, without the current price explicitly stated for the next year's dividend, the calculation should align with the Gordon Growth Model's application: (D1 / P0) + g. However, without the precise current price (P0) directly tied to the next year's dividend, the calculation for the required rate of return should incorporate the expected dividend, the current dividend, and the growth rate, leading to a misunderstanding in the provided explanation process. The correct answer, A, suggests a specific percentage that would typically be calculated by finding the yield plus growth, but the provided data and explanation path do not align with a straightforward calculation, indicating a need for clarification in the calculation steps or the provided information's interpretation.

The Current Dividend Yield on CJ's Common Stock Is 1