Refer to Lancaster Engineering Inc. (LEI) information below, what is LEI’s cost

Question

Refer to Lancaster Engineering Inc. (LEI) information below, what is LEI’s cost of common equity? (Hint: DCF method as illustrated on PowerPoint slide 10-18) (Note: Keep your answer. There are two other related questions.)

Use the following information for the three questions referring to Lancaster Engineering Inc. (LEI):

Lancaster Engineering Inc. (LEI) has the following capital structure:

Debt 25%

                                                       Preferred stock     15%

                                                       Common Equity 60%   

LEI’s corporate income tax rate is 40%. Investors expect LEI’s dividend to grow at a constant rate of 9% in the future. LEI has just paid a dividend of $3.60 per share (D0), and its common stock currently sells at a price of $54 per share. LEI can issue new preferred stock, with annual dividend of $11, at a price of $95 per share. LEI can also issue new corporate bond with yield to maturity, 12%.

6.67%

9.00%

15.67%

16.27%

7.27%

A.

6.67%

B.

9.00%

C.

15.67%

D.

16.27%

E.

7.27%

Explanation / Answer

r= (D1/P)+g=(3.60*(1.09)/54)+0.09=0.07267+0.09=0.1627 =16.27%

Thus choose

16.27%

Stock's current Price P 54.00 Just paid Dividend D0 3.60 Dividend growth rate per year g 9.00% Next year expected dividend D1=D0*(1+g) 3.92 required rate of return(cost of equity) r=(D1/P)+g 16.27%

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