Use the dividend discount model and the following information to calculate the price of XYZ stock:
Plowback ratio (b) = 60%; ROE = 20%; Current earnings (E1) =$5/share, and the required rate of return on the stock (k) is 12.5%
What would happen to the price of XYZ stock if the company decides to pay out all of its earnings in dividends? From that, infer the stock’s present value of growth opportunities (PVGO). Assume all the other information given in question a. remains the same.
What would happen to the price of the stock if now the ROE of the firm were only 10%, lower than the required rate of return? Compare the firm’s stock price with a ROE of 10% to that of the firm’s ROE of 20%. Use all information given in question a).