Omni Telecom is trying to decide whether to increase its cash dividend immediately or use the funds to increase its future growth rate.

P0 = D1 / Ke g

P0 = Price of the stock today

D1 = Dividend at the end of the first year

D1 = D0 (1 + g) D0 = Dividend today

Ke = Required rate of return

g = Constant growth rate in dividends

D0 is currently $2.80, Ke is 8 percent, and g is 5 percent.

Under Plan A, D0 would be immediately increased to $3.30 and Ke and g will remain unchanged.

Under Plan B, D0 will remain at $2.80 but g will go up to 6 percent and Ke will remain unchanged.

a. Compute P0 (price of the stock today) under Plan A. Note D1 will be equal to D0 (1 + g) or $3.30 (1.05). Ke will equal 8 percent, and g will equal 5 percent.

b. Compute P₀ (price of the stock today) under Plan B. Note D₁ will be equal to D₀ (1 + g) or $2.80 (1.06). K_e will be equal to 8 percent, and g will be equal to 6 percent.