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5 July, 15:08

Cullumber Corp. paid a dividend of $2.44 yesterday. The company's dividend is expected to grow at a steady rate of 5 percent for the foreseeable future. If investors in stocks of companies like Cullumber require a rate of return of 25 percent, what should be the market price of Cullumber stock? (Round dividend to 3 decimal places, e. g. 3.756 and round final answer to 2 decimal places, e. g. 15.25.)

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  1. 5 July, 15:32
    0
    The market price is $12.81 per share.

    Explanation:

    The price of the stock today can be calculated using the constant growth model of DDM as the dividends are expected to grow at a constant rate. The formula to calculate the price of the stock under constant growth model is,

    P0 = D1 / r-g

    Where,

    D1 is the Dividend for the next period or D0 * (1+g) r is the required rate of return g is the growth rate in dividends

    P0 = 2.44 * (1+0.05) / (0.25 - 0.05)

    P0 = $12.81
  2. 5 July, 15:33
    0
    The market price of Cullumber stock should be $12.81.

    Explanation:

    To calculate the market price of Cullumber stock, we use the dividend discount model (DDM) formula stated as follows:

    P = Next year dividend : (r - g) ... (1)

    Where,

    P = stock market price = ?

    Next year dividend = Do * (1 + 0.05) = $2.44 * 1.05 = $2.562

    r = required return = 25% = 0.25

    g = dividend growth rate = 5% = 0.05

    These above values are now substituted into equation (1) as follows:

    P = $2.562 : (0.25 - 0.05) = $2.562 : 0.20 = $12.81

    Therefore, the market price of Cullumber stock should be $12.81.
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