BEC QA – Growth Rate

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• #2838243
Participant

This is a fairly simple question. This is from the AICPA released QAs.

Dividends are equal to \$5, and the current share price is \$50. Dividends are expected to grow at 2% forever. According to the dividend growth model, what is the investor's required rate of return?

The answer is 12.2%, but I keep getting 12%.
I use the formula –> P = D / ( R – G)

50 = \$5 / (R – 0.02)

I may be missing something. Can anyone help?

#2838294
Participant

Okay I see. Maybe I should use this formula instead –> P = D x (1 + G) / R – G.

I was able to get 12.2% this way.

#2840304
Club74
Participant

Exactly. The actual formula uses the next dividend, not the current dividend, so you would take the 5 dollar dividend and add the 2% growth rate to it first and that is your dividend number (in the numerator).

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