Question

Bear Ind. has the following parameters related to its stock and firm.

Beta:     1.1

Recent Dividend             1.05 dollars

Dividend Growth Rate 4.5 percent

Expected return on market        11.0 percent

Treasury Bills Yield         4.3 percent

Most recent stock price 64.00 dollars

-What is the cost of equity using DDM? What is the cost of equity using SML?

-6.21 percent, 11.69 percent

-5.81 percent, 7.59 percent

-4.5 percent, 11.00 percent

-6.21 percent, 11.67 percent

Answer 1

D0= 1.05

Growth rate = 4.50%

D1 = (D0*(1+growth rate)

1.05*(1+4.5%) 1.09725

Current stock price (P0) = 64

Using DDM,

Cost of equity formula = D1/P0 + g

(1.09725/64) + 4.5%

1.71% 4.50%

6.21%

So, cost of Equity using DDM is 6.21%

Using SML,

Cost of Equity = Risk free rate + (Beta*(Market return - risk free rate of return)

Beta = 1.1

Market return= 11%

Treasury bills yield or risk free rate= 4.30%

4.3% +(1.1*(11%-4.3%))

11.67%

So cost of Equity using SML id 11.67%