Suppose you know that a company’s stock currently sells for $66 per share and the required return on the stock is 11 percent. You also know that the total return on the stock is evenly divided between a capital gains yield and a dividend yield. If it’s the company’s policy to always maintain a constant growth rate in its dividends, what is the current dividend per share?

Problem 8-6 Stock Valuation [LO1]

Suppose you know that a company’s stock currently sells for $66 per share and the required return on the stock is 11 percent. You also know that the total return on the stock is evenly divided between a capital gains yield and a dividend yield. If it’s the company’s policy to always maintain a constant growth rate in its dividends, what is the current dividend per share? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Current dividend per share

$

 

Explanation:

We know the stock has a required return of 11 percent, and the dividend and capital gains yield are equal, so:

Dividend yield = 1/2(.11) = .055 = Capital gains yield

Now we know both the dividend yield and capital gains yield. The dividend is simply the stock price times the dividend yield, so:

D1 = .055($66)

D1 = $3.63

This is the dividend next year. The question asks for the dividend this year. Using the relationship between the dividend this year and the dividend next year:

D1 = D0(1 + g)

We can solve for the dividend that was just paid:

$3.63 = D0(1 + .055)

D0 = $3.63 / 1.055

D0 = $3.44