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FinanceQ&A Library5.Gentry Can Company's (GCC's) latest annual dividend of $1.25 a share was paid yester-day and maintained its historic 7 percent annual rate of growth. You plan to purchase thestock today because you believe that the dividend growth rate will increase to 8 percentfor the next three years and the selling price of the stock will be $40 per share at the endof that time.a. How much should you be willing to pay for the GCC stock if you require a 12 percentreturn?b. What is the maximum price you should be willing to pay for the GCC stock if youbelieve that the 8 percent growth rate can be maintained indefinitely and you requirea 12 percent return?c. If the 8 percent rate of growth is achieved, what will the price be at the end of Year 3,assuming the conditions in part (b)?Question

Asked Feb 9, 2020

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Step 1

a) Latest annual dividend is $1.25, price at the end of 3^{rd} year is $40. Growth rate of dividends for next three years is 8%. Therefore, current price should be the present value of next three years dividend and $40.

Current price of the stock can be calculated as below:

Answer: Price, he should be willing to pay is $31.96

Step 2

b) If the growth rate is expected to be 8% indefinitely and required return is 12%, then price can be calculated as below:

Answer: Maximum price of the stock would be $33.75

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