Question

# The Shoe Outlet has paid annual dividends of \$.65, \$.70, \$.72, and \$.75 per share over...

 The Shoe Outlet has paid annual dividends of \$.65, \$.70, \$.72, and \$.75 per share over the last four years, respectively. The stock is currently selling for \$9a share. What is this firm's cost of equity?
 8.74 percent
 13.65 percent
 10.38 percent
 9.53 percent
 11.79 percent

Hello

THE CORRECT ANSWER IS OPTION B : 13.65%

Using artithmatic average method :

•To use the dividend growth model, we first need to find the growth rate in dividends. So, the increase in dividends each year was:

g1 = (\$.70 – .65)/\$.65 = 7.69%

g2 = (\$.72 – .70)/\$.70 = 2.86%

g3 = (\$0.75 – .72)/\$.72 = 4.17%

So, the average arithmetic growth rate in dividends was:

• g = (7.69%+2.86%+4.17%)/3 = 4.91%

• Using this growth rate in the dividend growth model, we find the cost of equity is:

• RE = [\$0.75(1.0491)/\$9.00] + .0491 = 13.65%

I hope this solves your doubt.

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