Investors require an after-tax rate of return of 10% on their stock investments. Assume that the tax

Question:

Investors require an after-tax rate of return of 10% on their stock investments. Assume that the tax rate on dividends is 28% while capital gains escape taxation. A firm will pay a $2 per share dividend l year from now, after which it is expected to sell at a price of $20.

a. Find the current price of the stock.

b. Find the expected before-tax rate of return for a 1-year holding period.

c. Now suppose that the dividend will be $3 per share. If the expected after-tax rate of return is still 10%, and investors still expect the stock to sell at $20 in l year, at what price must the stock now sell?

d. What is the before-tax rate of return? Why is it now higher than in part (b)?

Dividend
A dividend is a distribution of a portion of company’s earnings, decided and managed by the company’s board of directors, and paid to the shareholders. Dividends are given on the shares. It is a token reward paid to the shareholders for their...

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