Question

NCH Corporation, which markets cleaning chemicals, insecticides and other products, paid dividends of $2.00 per share in 1993 on earnings of $4.00 per share. The book value of equity per share was $40.00, and earnings are expected to grow 6% a year in the long term. The stock has a beta of 0.85, and sells for $60 per share. (The treasury bond rate is 7%.). How much would the return on equity have to increase to justify the price/book value ratio at which NCH sells for currently?

Answer 1

The reutrn on equity should be of 9.53%

Step-by-step explanation:

We can solve the return on equity by considering the gordon model of dividend growth:

`(divends_1)/(return_(equity)-growth) = Intrinsic \: Value`

current dividends 2 dollars

next year dividends: current x (1 + g) = 2 x (1 + 0.06) = 2.12

`(2.12)/(return_(equity)-0.06) = 60`

`(2.12)/(60) +0.06= Ke`

Ke = 0.09533 = 9.53%