Laverne Industries stock has a beta of 1.44. The company just paid a dividend of

Question

Laverne Industries stock has a beta of 1.44. The company just paid a dividend of $.94, and the dividends are expected to grow at 5.4 percent. The expected return of the market is 11.9 percent, and Treasury bills are yielding 5.4 percent. The most recent stock price is $85.75.

Required:

(a) Calculate the cost of equity using the dividend growth model method. (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)

Cost of equity %

(b) Calculate the cost of equity using the SML method. (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)

Cost of equity %

Explanation / Answer

Dividend growth mode:

Cost of equity, re = $0.94×(1+5.4%)÷$85.75+5.4%

= 6.56%

SML method:

Cost of equity = Rf+×Rp

Rf is risk free return

Rp is risk premium

= 5.4%+1.44×(11.9%-5.4%)

= 14.76%

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