Laverne Industries stock has a beta of 1.35. The company just paid a dividend of

Question

Laverne Industries stock has a beta of 1.35. The company just paid a dividend of $.85, and the dividends are expected to grow at 5 percent. The expected return of the market is 11.5 percent, and Treasury bills are yielding 5 percent. The most recent stock price is $83.50.

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

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

Laverne Industries stock has a beta of 1.35. The company just paid a dividend of $.85, and the dividends are expected to grow at 5 percent. The expected return of the market is 11.5 percent, and Treasury bills are yielding 5 percent. The most recent stock price is $83.50.

Explanation / Answer

Ke = D1 / P0 +g

D1 = D0 [ 1+g]

= 0.85 [ 1+ 0.05]

= 0.8925

Ke = 0.8925 / 83.50 + 0.05

= 0.0606 or 6.1%

b. Ke = Rf + beta (Rm - Rf)

= 0.05 + 1.35 ( 0.115 - 0.05)

= 0.05 + 0.08775 = 0.13775 or 13.78%.

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