Problem 9-12 Valuation of a constant growth stock Investors require a 16% rate o
ID: 2713478 • Letter: P
Question
Problem 9-12
Valuation of a constant growth stock
Investors require a 16% rate of return on Levine Company's stock (that is, rs = 16%).
What is its value if the previous dividend was D0 = $1.25 and investors expect dividends to grow at a constant annual rate of (1) -6%, (2) 0%, (3) 7%, or (4) 13%? Round answers to the nearest hundredth.
(1) $
(2) $
(3) $
(4) $
Using data from part a, what would the Gordon (constant growth) model value be if the required rate of return was 15% and the expected growth rate were (1) 15% or (2) 20%? Are these reasonable results?
The results show that the formula makes sense if the required rate of return is equal to or greater than the expected growth rate.
These results show that the formula does not make sense if the expected growth rate is equal to or less than the required rate of return.
The results show that the formula does not make sense if the required rate of return is equal to or less than the expected growth rate.
The results show that the formula does not make sense if the required rate of return is equal to or greater than the expected growth rate.
The results show that the formula makes sense if the required rate of return is equal to or less than the expected growth rate.
-Select-IIIIIIIVVItem 5
Is it reasonable to think that a constant growth stock could have g > rs?
It is not reasonable for a firm to grow indefinitely at a rate equal to its required return.
It is not reasonable for a firm to grow indefinitely at a rate higher than its required return.
It is reasonable for a firm to grow indefinitely at a rate higher than its required return.
It is not reasonable for a firm to grow even for a short period of time at a rate higher than its required return.
It is not reasonable for a firm to grow indefinitely at a rate lower than its required return.
-Select-IIIIIIIVVItem 6
Explanation / Answer
The results show that the formula does not make sense if the required rate of return is equal to or less than the expected growth rate.
It is not reasonable to think that a constant growth stock could have g> rs as in that case the
It is not reasonable for a firm to grow indefinitely at a rate equal to its required return.
It is not reasonable for a firm to grow indefinitely at a rate higher than its required return
It is reasonable for a firm to grow indefinitely at a rate higher than its required return.
It is not reasonable for a firm to grow even for a short period of time at a rate higher than its required return.
It is not reasonable for a firm to grow indefinitely at a rate lower than its required return.
Given required return on stock =k= 16% Prev Dividend = D0 = 1.25 constant annual dividend growth rate = g Share Value = d0(1+g)/(k-g) 1 When g= -6% , Share Value = d0(1+g)/(k-g) = $ 5.34 2 When g= 0% , Share Value = d0(1+g)/(k-g) = $ 7.81 3 When g= 7% , Share Value = d0(1+g)/(k-g) = $ 14.86 4 When g= 13% , Share Value = d0(1+g)/(k-g) = $ 47.08 Given required return on stock =k= 15% a When g= 15% , Share Value = d0(1+g)/(k-g) = Not defined as divided by zero When g= 20% , Share Value = d0(1+g)/(k-g) = $ (30.00) These are not reasonable resultsThe results show that the formula does not make sense if the required rate of return is equal to or less than the expected growth rate.
( only true option)It is not reasonable to think that a constant growth stock could have g> rs as in that case the
value of the stock shows negativeIt is not reasonable for a firm to grow indefinitely at a rate equal to its required return.
(true) it will not generate any cash flow more than required return and stock price will not growIt is not reasonable for a firm to grow indefinitely at a rate higher than its required return
False. Every firm should try to achieve a growth rate more than the required rate of return.It is reasonable for a firm to grow indefinitely at a rate higher than its required return.
True. Every firm should try to achieve a growth rate more than the required rate of return.It is not reasonable for a firm to grow even for a short period of time at a rate higher than its required return.
False. Every firm should try to achieve a growth rate more than the required rate of return.It is not reasonable for a firm to grow indefinitely at a rate lower than its required return.
True . A firm cannot sustain for long if the return rate is lower than required rate of return.Related Questions
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