You are interested in buying a share of stock in LMU Company. You expect a dividend payment of $10 next year and that the dividend will grow by 6% per year thereafter. You desire a 8% return on your purchase. According to the Gordon growth model, what is the maximum price you would pay for a share of this stock?

Question

Business

Carl Moss

4 September, 02:44

You are interested in buying a share of stock in LMU Company. You expect a dividend payment of $10 next year and that the dividend will grow by 6% per year thereafter. You desire a 8% return on your purchase. According to the Gordon growth model, what is the maximum price you would pay for a share of this stock?

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Answers (1)

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Peter Sullivan · Answer 1

The correct answer is $500.

Explanation:

According to the scenario, the computation of the given data are as follows:

Dividend = $10

Growth rate = 6%

Rate of return = 8%

So, we can calculate the Maximum price of the stock by using following formula:

Price of stock = Dividend : (Rate of return - Growth rate)

By putting the value,

Price of stock = $10 : (8% - 6%)

= $10 : 0.02

= $500.