Consider the following two statements: "Dividend policy is irrelevant," and "Stock price is the present value of expected future dividends." They sound contradictory. This question is designed to show that they are fully consistent. The current price of the
shares of Charles River Mining Corporation is $50. Next
year's earnings and dividends per share are $4 and $2, respectively. Investors
expect perpetual growth at 8 percent per year. The expected rate of return
demanded by investors isr = 12 percent.
We can use the perpetual-growth model to calculate stock price. 50 08 . 12 . 2 0 = - = - = g rDIV P Suppose that Charles River Mining announces that it will switch to a 100 percent payout policy, issuing shares as necessary to finance growth. Use the perpetual- growth model to show that current stock price is unchanged.