Summary of Stock Valuation

I. The general case

In general, the price today of a share of stock, P0, is the present value of all of its future dividends, D1, D2, D3, . . . :

where R is the required return.

II. Constant growth case

If the dividend grows at a steady rate, g, then the price can be written as:

This result is called the dividend growth model.

III. Supernormal growth

If the dividend grows steadily after t periods, then the price can be written as:

IV. The required return

The required return, R, can be written as the sum of two things:

R = D1/P0 + g where D1/P0 is the dividend yield and g is the capital gains yield (which is the same thing as the growth rate in dividends for the steady growth case).

Ross et al.: Fundamentals of Corporate Finance, Sixth Edition, Alternate Edition

III. Valuation of Future Cash Flows

S. Stock Valuation

© The McGraw-Hill Companies, 2002

CHAPTER 8 Stock Valuation

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