To calculate the estimated value of a share of stock using the Constant Growth Model (also known as the Gordon Growth Model), you can use the following formula:
\[ P = \frac{D_1}{R - g} \]
Where:
- \( P \) = Price of the stock
- \( D_1 \) = Dividend next year
- \( R \) = Required rate of return (discount rate)
- \( g \) = Growth rate of the dividend
Given:
- The most recent dividend (\( D_0 \)) = $1.00
- Growth rate (\( g \)) = 14.22% = 0.1422
- Discount rate (\( R \)) = 10.5% = 0.105
First, we need to calculate \( D_1 \), the dividend expected next year:
\[ D_1 = D_0 \times (1 + g) = 1.00 \times (1 + 0.1422) = 1.00 \times 1.1422 = 1.1422 \]
Now we substitute \( D_1 \), \( R \), and \( g \) into the formula:
\[ P = \frac{D_1}{R - g} = \frac{1.1422}{0.105 - 0.1422} = \frac{1.1422}{-0.0372} \]
Since the \( R \) is less than \( g \), it indicates that the model does not apply in this case, as it leads to a negative denominator. The constant growth model is not suitable when \( g \) exceeds \( R \), indicating an infinite growth scenario that cannot be reasonably captured by the model.
Thus, according to the Constant Growth Model, we cannot estimate a valid stock price here. Please consider that further evaluation of the growth sustainability or using a different valuation model may be warranted in this situation.
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