Hudson Corporation will pay a dividend of $3.28 per share next year and pledges to increase the dividend by 3.75% annually, indefinitely. If you require a 10% return on investment, how much should you pay for the company's stock today?
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To calculate how much you should pay for the company's stock today, given the expected dividend payments and their growth rate, you can use the Gordon Growth Model (also known as the Dividend Discount Model). This model assumes a constant growth rate in dividends per share and calculates the present value of an infinite series of future dividends.
The formula for the Gordon Growth Model is:
P = D1 / (k - g)
Where: P = Present value of the stock D1 = Dividend expected in the next year k = Required rate of return (investor's desired return) g = Growth rate in dividends
In this case: D1 = $3.28 k = 10% or 0.10 g = 3.75% or 0.0375
We plug these values into the formula to find out the stock price:
P = $3.28 / (0.10 - 0.0375) P = $3.28 / 0.0625 P = $52.48
Therefore, according to the Gordon Growth Model, you should pay $52.48 for Hudson Corporation's stock today if you require a 10% return on investment.