Jackson Corp. common stock paid $2.50 in dividends last year. Dividends are expected to grow at a 12-percent annual rate forever. If Jackson's current market price is $40.00, what is the stock's expected rate of return (round to nearest .01%)?

The stock's expected rate of return is 19.00%

Explanation:

The price per share of a stock whose dividends grow by a constant rate forever is calculated using the constant growth model of the DDM approach.

The formula for price today under this model is,

P0 = D0 * (1+g)  /  (r - g)

As we know the price today along with the growth rate and the dividend last year or D0, we can plug in these values to calculate the expected/required rate of return or r.

40 = 2.5 * (1+0.12)  /  (r - 0.12)

40 * (r - 0.12)  =  2.8

40r - 4.8  =  2.8

40r = 2.8 + 4.8

r = 7.6 / 40

r = 0.19 or 19%

answer; commerce clearing house;

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