A stock is expected to pay a dividend of $0.50 at the end of the year (that is, D1 = 0.

50), and it should continue to grow at a constant rate of 7 percent a year. If its required return is 12 percent, what is the stock's expected price 4 years from today? First, solve for the current price. Po Po Po

= = =

D1 / (ks g) $0.50 / (0.12 - 0.07) $10.00

Second, note that if the stock is in a constant growth state, then the constant dividend growth rate is also the capital gains yield for the stock as well as the stock price growth rate. Therefore, to find the price of the stock four years from today consider the following:

P4

= P0 ( 1 + g )

P4

= $10.00 ( 1.07 )

P4

= $13.10796

= approx. $13.11