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 ```Constant-Growth Model. Here are data on two stocks, both of which have discount rates of 15 percent: Stock A Stock B Return on equity 15% 10% Earnings per share \$2.00 \$1.50 Dividends per share \$1.00 \$1.00 A. What are the dividend payout ratios for each firm? B. What are the expected dividend growth rates for each firm? C. What is the proper stock price for each firm?```
 ```a. The dividend payout ratio is calculated as: (Dividends per Share) / (Earnings per Share) Thus, for firm A, this ratio is 1/2 = 50%. For firm B, the ratio is 1/1.5 = 66.66% b. The expected dividend growth rate is calculated using the following formula: Dividend Growth Rate = (Retention Ratio)*(Return on Equity) The Retention Ratio is simple one minus the dividend payout ratio. So the retention ratio is 50% for firm A and 33.33% for firm B. Therefore, their growth rates will be: Dividend Growth for Firm A = 0.5*0.15 = 0.075 (annual 7.5%) Dividend Growth for Firm B = 0.3333*0.1 = 0.03333? (annual 3.33%) c. Here we use the constant dividend growth pricing model. The formula is: Price = (Next Dividend) / (Discount Rate - Growth Rate). Notice that both firms currently pay \$1 per share. Let?s assume that this dividend was paid yesterday for both firms. Thus the next dividend for firm A will be 1.075, and for firm B it will be 1.0333. Therefore, using the given formula and bearing in mind that the discount rate is 15% for both firms, we get: Price(Firm A) = 1.075/(0.15 - 0.075) = \$14.33 Price(Firm A) = 1.0333/(0.15 - 0.0333) = \$8.85 Additional Resources: Dividend Discount Model http://www.investopedia.com/articles/fundamental/04/041404.asp Google search terms constant dividend growth model formula ://www.google.com.ar/search?sourceid=navclient&aq=t&ie=UTF-8&rls=GGLJ,GGLJ:2006-25,GGLJ:en&q=constant+dividend+growth+model+formula I hope this helps! If you have any doubt regarding my answer, please don't hesitate to request clarification before rating it. Otherwise, I await your rating and final comments. Best wishes! elmarto```