a. Computer stocks currently provide an expected rate of return of 16%. MBI, a large computer company, will pay a year-end dividend of $2 per share. If the stock is selling at $50 per share, what must be the market's expectation of the growth rate of MBI dividends? (Do not round intermediate calculations. Round your answer to 2 decimal places.) b. If dividend growth forecasts for MBI are revised downward to 5% per year, what will be the price of the MBI stock? (Round your answer to 2 decimal places.) c. What (qualitatively) will happen to the company's price–earnings ratio? The P/E ratio will decrease. The P/E ratio will increase.

Respuesta :

Answer:

a)

$50 = $2 / (16% - g)

16% - g = $2 / $50 = 4%

g = 16% - 4% = 12%

expected growth rate = 12%

b)

P₀ = $2 / (16% - 5%)

P₀ = $2 / 11%

P₀ = $18.18

c)

P/E ratio = share price / EPS

since the share price decreases from $50 to $18.18, the P/E ratio will decrease. When you are dividing a number, if the numerator decreases while the denominator remains still, the answer will decrease.

Growth rate in case 1 and Current Stock Price in case 2 are 12% and $18.18

Computation:

Case 1 ; Using Gordon's Model,

P = D1/(r - g)

50 = 2/(16% - g)

50 = 2/(0.16 - g)

0.16 - g = 2/50  

0.16 - g = 0.04  

g = 0.16 - 0.04

g = 0.12

Growth rate = 12%

Case 2 ; Using Gordon's Model,

P = D1/(r - g)

P = 2/(16% - 5%)

P = 2/(0.16 - 0.05)

Current Stock Price P = $18.18

Case 3;

Because the value of the shares has dropped, the P/E ratio has dropped as well. As a result, the P/E ratio will fall.

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