Question

Stock in Daenerys Industries has a beta of 1.4. The market risk premium is 7 percent, and T-bills are currently yielding 4.4 percent. The company’s most recent dividend was $1.60 per share, and dividends are expected to grow at an annual rate of 6 percent indefinitely.

If the stock sells for $32 per share, what is your best estimate of the company’s cost of equity?

Answer 1

The cost of capital for the firm is 12.75%

Step-by-step explanation:

from the CAMP model we can determinatethe rate as follow:

`Ke= r_f + \beta (r_m-r_f)`

risk free 0.044

premium market = (market rate - risk free) = 0.07

beta(non diversifiable risk) = 1.4

`Ke= 0.044 + 1.4 (0.07)`

Ke 0.14200 = 14.2%

from the dividend grow model:

`(divends)/(return-growth) = Intrinsic \: Value`

`(divends)/(Price) = return-growth`

`(divends)/(Price) + growth = return`

D0 = 1.60

D1 D0 x (1+g) 1.60 dollars x 1.06 = 1.696

P $ 32

g 0.06

`$Cost of Equity =(1.696)/(32) +0.06`

Ke 0.113 = 11.3%

we can do an average betwene the two methods:

(14.2 + 11.3)/2 = 12.75