Problem 9-11 Cost of Equity Radon Homes\'s current EPS is $6.34. It was $4.85 5

Question

Problem 9-11
Cost of Equity

Radon Homes's current EPS is $6.34. It was $4.85 5 years ago. The company pays out 50% of its earnings as dividends, and the stock sells for $37.

Radon Homes's current EPS is $6.34. It was $4.85 5 years ago. The company pays out 50% of its earnings as dividends, and the stock sells for $37. Calculate the historical growth rate in earnings. (Hint: This is a 5-year growth period.) Calculate the next expected dividend per share, D1 (Hint: D0 = 0.50($6.34) = $3.17). Assume that the past growth rate will continue. Round your answer to the nearest cent. What is Radon's cost of equity, rs?

Explanation / Answer

1.historical growth rate in earnings =(6.34/4.85)^(1/5)-1 = 5.50%

2. D0 = 0.50($6.34) = $3.17

D1 =D0*(1+g) = 3.17*(1+ 5.50%)= $3.34

3. P = D1/(re-g)

37 = 3.34/(re-5.50%)

Cost of equity , re =14.54%

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