Question

Adelaide Corp. has earnings of $3 a share based upon an ordinary share book value of $25 per share as at the beginning of the year. The firm also announced a dividend of $1.50 this year. What is the retention ratio of the firm? What is the return on equity of the firm? What is the expected growth rate in earnings of the firm?

Answer 1

Earning per share of Adelaide Corp. = $3

Dividend per share of Adelaide Corp. = $1.50

a). Retention ratio = (Earnings - Dividend)/Earnings

= ($3 - $1.50)/$3

= 50%

- Retention value per share during the year = $3 - $1.50

= $1.50

Ordinary share book value at the beginning = $25 per share

Ordinary share book value at the end = Value at the beginning + Retention value per share during the year

= $25 per share + $1.50

= $26.50 per share

b). Return on Equity(ROE) = Earnings/Ordinary share book value at the end

= $3/$26.50

= 11.32%

c). Expected growth rate in earnings of the firm = Retention Ratio*ROE

= 50%*11.32%

= 5.66%

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