Epley Industries stock has a beta of 1.30. The company just paid a dividend of $

Question

Epley Industries stock has a beta of 1.30. The company just paid a dividend of $.30, and the dividends are expected to grow at 4 percent. The expected return on the market is 13 percent, and Treasury bills are yielding 6.3 percent. The most recent stock price for the company is $80.

a. Calculate the cost of equity using the DCF method. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) DCF method %

b. Calculate the cost of equity using the SML method. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) SML method %

Explanation / Answer

Solution:

1. Cost of equity using DCF method -

Cost of Equity, ke = ( Dividend ( 1 + growth rate ) / Current Market price ) + Growth rate

Cost of Equity, ke = ( $ 0.30 ( 1 + 4%) / $ 80 ) + 4 %

Cost of Equity, ke = 4.39%

2. Cost of Equity, ke using SML -

Cost of Equity, ke = Risk free return + beta * ( Market risk - risk free return )

Cost of Equity, ke = 6.3% + 1.30 * ( 13 % - 6.3 %)

Cost of Equity, ke = 15.01%

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