Question

A stock is expected to pay annual dividends of $1.20 and sell for $42.60 three years from today. Which of these is the correct formula for computing the value of the stock today if the discount rate is 9 percent?
A. Po = $1.20 ($1.20/1.09) + [($1.20+ $42.609)/1.09^2].
B. Po = ($1.20/1.09) + ($1.20/1.09^2) + ($42.60/1.09^2).
C. Po = ($1.20/1.09) + ($1.20/1.09^2) + [(1.20+ $42.60)/1.09^2].
D. Po = $1.20^2/1.09^2 + ($42.60/1.09^2).

Answer 1

Answer:

C. Po = ($1.20/1.09) + ($1.20/1.09^2) + [(1.20+ $42.60)/1.09^2].

Explanation:

Given that

The annual dividend is $1.20

And, the stock should be sold at $42.60

The no of years is 3 from today

Discount rate is 9%

So, the formula for determining the value of the stock today is the option c as the value of the stock should be equivalent to the present value of all future cash flow that are discounted at the required rate of return