The Merriweather Co. just announced that it will pay a dividend next year of $1.60 and is establishing a policy whereby the dividend will increase by 2.5% annually thereafter. How much will one share be worth five years from now if the required rate of return is 15%?

Question

Quizplus · Accepted Answer

In five years, the dividend per share will be:

D5 = D1 x (1 + g)^5 = $1.6 x (1 + 0.025)^5 = $1.87

Using the dividend discount model and a required rate of return of 15%, the value of the share will be:

V0 = D1 / (r - g) = $1.6 / (0.15 - 0.025) = $12.57

V5 = D5 / (r - g) = $1.87 / (0.15 - 0.025) = $14.48

Therefore, the answer is B.