[Savedbygrace7]

The question basically gives you three investments for you to consider when investing 10,000. The first question asks you to calculate the value of each investment based on your required rate of return. I'm pretty sure I have the values for the first two investments correct, but I'm struggling with the third investment, described as follows:

Emerson Electric common stock selling for $36.75, with a par value of $5. The stock recently paid a $1.32 dividend and the firm's earnings per share has increased from $1.49 to $3.06 in the past five years. The firm expects to grow at the same rate for the foreseeable future. Required rate of return is 15 percent.

Here's what I've come up with:
Eps growth rate = (3.06/1.49)^1/5 -1
= 2.05369^1/5 -1
= 1.15480 - 1
= 15.48%

Value = $1.32 x (1 + .1548) / (.15 - .1548)
= 1.52434 / -.00480
= -317.57

Is this the correct value? If so, should it be written as a poitive instead of a negative? Also, does this make the stock worth investing in?
Thank you!

[ArcSine]

SBG7, you've done everything technically correct, computationally (nice job). However, this one illustrates why the constant growth model requires that k > g, for required rate of return k and constant growth rate g.

In this case, the supplied information implies that the firm's earnings (EPS, or asset returns) will grow indefinitely at a rate exceeding the required cost of capital. That's why the model is returning a nonsensical negative value; note that if g > k, then the denominator will be negative.

Either your text is trying to trip you with a curve ball, or there's some mis- or missing-information somewhere. Re-examine the background info carefully, and check back in.

Note, however, that the current share price is already provided, and that's presumably what you're trying to solve for. This suggests the market is expecting a lower growth rate for Emerson going forward, than the one implied by the recent EPS growth. So again, look back over the problem carefully to see what exactly they're asking.