What is the maximum amount you should pay to purchase a share of this stock if you require a 12 percent rate of return?

Question

Rosita's announced that its next annual dividend will be $1.65 a share and all future dividends will increase by 2.5 percent annually. What is the maximum amount you should pay to purchase a share of this stock if you require a 12 percent rate of return?

Answer 1

Using the formula for the Gordon growth model:

Price = Dividend in the next period / (discount rate - growth rate)

Price = 1.65/(0.12 - 0.025) = $17.37