CFA Level I · CFA Level I Exam · Discounted Cash Flow (DCF) and Growth Models
A company is expected to pay a dividend of $2.40 per share next year, and dividends are expected to grow at 4% a year indefinitely. The required return on equity is 10%. The intrinsic value per share is closest to:
The value is about $40.00. Using the Gordon growth model, the next dividend of $2.40 is divided by the difference between the 10% required return and the 4% growth rate, which is 6%, giving $40.00 per share.
- A$24.00
- B$40.00Correct
- C$60.00
Explanation
Gordon growth: V0 = D1/(r - g) = 2.40/(0.10 - 0.04) = 2.40/0.06 = $40.00. Dividing by r alone gives $24.00, which ignores growth. $60.00 results from using 0.04 as the divisor.
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