Your colleague, Lori, has analyzed two stocks and estimated the dividends they w

Question

Your colleague, Lori, has analyzed two stocks and estimated the dividends they will pay next year as well as their prices at the end of the year. Her projections are shown below. Compute the dividend yield, capital gains yield, and total one-year return implied by Lori's estimates for each stock. The O'Malley Company has paid an annual dividend of $2 per share for some time. Recently the board of directors voted to grow the dividend by 6% from now on. What is the most you would be willing to pay for a share of O'Malley if you expect a 10% return on your stock investments?

Explanation / Answer

Ans 3. All Amounts in $ Stock Current Stock Price Projected Dividend Projected stock price Dividend Yield = Dividend/Current Price Capital Gains = Expected price-Current Price Capital Gains Yield=Capital gains/Current Price Total one year return= dividend+capital gains Stock A 37.5 1.45 43 3.87% 5.50 14.7% 6.95 Stock B 24.5 0.9 26.5 3.67% 2.00 8.2% 2.90 Ans 4. Current dividend d0 = 2 Dividend growth rate 6% Expected return k= 10% Price =P P = d0(1+g)/(k-g)= 2*1.06/(0.10-0.06) = $                    53.00 so I shall be willing to may $53 per share of The O'Malley Company

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