Chell, Inc., is expected to maintain a constant 4 percent annual growth rate in its dividends, indefinitely. If the company has just paid $11 in annual dividend, what comes closest to the intrinsic value of this stock? Assume the discount rate of 9%. 229 127 122 220 0000
Dividend Valuation
Dividend refers to a reward or cash that a company gives to its shareholders out of the profits. Dividends can be issued in various forms such as cash payment, stocks, or in any other form as per the company norms. It is usually a part of the profit that the company shares with its shareholders.
Dividend Discount Model
Dividend payments are generally paid to investors or shareholders of a company when the company earns profit for the year, thus representing growth. The dividend discount model is an important method used to forecast the price of a company’s stock. It is based on the computation methodology that the present value of all its future dividends is equivalent to the value of the company.
Capital Gains Yield
It may be referred to as the earnings generated on an investment over a particular period of time. It is generally expressed as a percentage and includes some dividends or interest earned by holding a particular security. Cases, where it is higher normally, indicate the higher income and lower risk. It is mostly computed on an annual basis and is different from the total return on investment. In case it becomes too high, indicates that either the stock prices are going down or the company is paying higher dividends.
Stock Valuation
In simple words, stock valuation is a tool to calculate the current price, or value, of a company. It is used to not only calculate the value of the company but help an investor decide if they want to buy, sell or hold a company's stocks.
![### Valuation of Chell, Inc. Stock Using Dividend Growth Model
**Question:**
Chell, Inc., is expected to maintain a constant 4 percent annual growth rate in its dividends, indefinitely. If the company has just paid $11 in an annual dividend, what comes closest to the intrinsic value of this stock? Assume the discount rate of 9%.
**Options:**
1. \( \; \) 229
2. \( \; \) 127
3. \( \; \) 122
4. \( \; \) 220
**Solution Explanation:**
To determine the intrinsic value of the stock, we can use the Gordon Growth Model (also known as the Dividend Discount Model). The formula for the intrinsic value \( P_0 \) is:
\[ P_0 = \frac{D_0 \times (1 + g)}{r - g} \]
where:
- \( D_0 \) is the most recent dividend payment.
- \( g \) is the growth rate of the dividends.
- \( r \) is the discount rate.
Given:
- \( D_0 = 11 \; \text{dollars} \)
- \( g = 0.04 \; \text{(4 percent growth rate)} \)
- \( r = 0.09 \; \text{(9 percent discount rate)} \)
First, we need to calculate the expected dividend next year, \( D_1 \):
\[ D_1 = D_0 \times (1 + g) \]
\[ D_1 = 11 \times (1 + 0.04) \]
\[ D_1 = 11 \times 1.04 \]
\[ D_1 = 11.44 \]
Now, we can plug \( D_1 \) into the Gordon Growth Model formula:
\[ P_0 = \frac{11.44}{0.09 - 0.04} \]
\[ P_0 = \frac{11.44}{0.05} \]
\[ P_0 = 228.8 \]
Hence, the intrinsic value of Chell, Inc.'s stock is approximately 229 dollars.
**Correct Answer:**
\( \; \) 229](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2F75fb4f79-5bfb-4902-85d2-e1edc76b1d17%2F6849397b-1aca-4eb1-8243-dc6756befb97%2F01pecvc_processed.jpeg&w=3840&q=75)
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