Antiques R Us is a mature manufacturing firm. The company just paid a dividend of $9.90, but management expects to reduce the payout by 5 percent per year indefinitely. If you require a return of 14 percent on this stock, what will you pay for a share today?

ANSWER

Price =$49.5

EXPLANATION

Using the dividend valuation model, the price of a stock is the present value of expected future dividend discounted at the required rate of return.

Price  = Do (1+g)/Ke-g)

This model can be modified to accommodate a decline rate in dividend .

as follows:

Price = Do (1-g)/ (Ke - -g)

Price = 9.90 × (1-0.05)/(0.14- - 0.05)

Price = 9.90 × (1-0.05)/(0.14+0.05)

Price =$49.5

i would say a certificate of deposit, so you're not locked into a long term, and it has more security than a mutual fund.

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