Pete and Repete both require a 15% rate of return on Buckeye stock that is currently selling for $20 per share. Both feel that it is appropriate to use the constant growth model to value the stock. They agree that the dividend next year will be $2.00 and will grow at 5% a year for the foreseeable future. Pete plans to buy the stock and hold it for 4 years while Repete plans to buy the stock and hold it for 8 years. Which of the following statements is true?

Question

Quizplus · Accepted Answer

Both Pete and Repete are using the constant growth model (Gordon Growth Model) to value the stock, which calculates the present value of an infinite amount of future dividends that grow at a constant rate. Since the holding period (whether 4 years or 8 years) does not affect the valuation in this model, both should be willing to buy the stock if it is priced correctly according to their required rate of return and the growth assumptions.

Pete and Repete Both Require a 15% Rate of Return