Question

On a certain date, Kastbro has a stock price of $37.50, pays a dividend of $0.64, and has anequity cost of capital of 8%. An investor expects the dividend rate to increase by 6% per year inperpetuity. He then sells all stocks that he owns in Kastbro. Given Kastbroʹs share price, was thisa reasonable action?A) No, since the constant dividend growth rate gives a stock estimate of $37.50.B) No, since the constant dividend growth rate gives a stock estimate greater than $37.50.C) Yes, since the constant dividend growth rate gives a stock estimate greater than $37.50.D) No, since the difference between his calculated stock price and the actual stock price mostlikely indicates that his estimate of dividend growth rate was incorrect.

Answer 1

Answer:

No, since the difference between his calculated stock price and the actual stock price most likely indicates that his estimate of dividend growth rate was incorrect.

Explanation:

Current Estimated Stock Price

P0=D1/(ke-g)

P0=(0.64(1.06))/(0.08-0.06)

P0=33.92