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The Xerox Company paid a $3.00 dividend per share on its common stock this past year. This dividend represented a 40% payout ratio. Dividends are expected to grow at a 6% annual compound growth rate while earnings are expected to grow at a 10% growth rate during the next 3 years. The P/E ratio is expected to remain at 12.
A) If the return of 12% is required during the next 3 years, what is the fair price today for each share of common stock?
B) If the common stock was selling instead for $85.00 today, rather than your answer in part (a), what is the minimum price the investor could accept at the end of the third year and still earn the required rate of return? (Assume everything else above the expected the P/E ratio remains the same)
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