Question

Suppose Powers Ltd., just issued a dividend of $1.20 per share on it common stock. The company paid dividends of $.85, $.92, $.99, and $1.09 per share in the last four years. If the stock currently sells for $53, what is your best estimate of the company's cost of equity capital using arithmetic and geometric growth rates?

Answer 1

Answer: 11.48%; 11.47%

Step-by-step explanation:

Given that,

Dividend Issued on common stock = $1.20 per share

Dividend paid in last four years:

$.85 per share

$.92 per share

$.99 per share

$1.09 per share

Stock currently sells at = $53

Calculation of growth rates in dividends :

G1 =
`(0.92-0.85)/(0.85)`

= 8.24%

G2 =
`(0.99-0.92)/(0.92)`

= 7.6%

G3 =
`(1.09-0.99)/(0.99)`

= 10.1%

G4 =
`(1.20-1.09)/(1.09)`

= 10.09%

(1) Arithmetic growth Rate =
`(8.24+7.6+10.1+10.09)/(4)`

= 9.01%

Cost of Equity =
`((1.20)(1.0901))/(53)+0.0901`

= 11.48%

(2) Geometric growth Rate

`1.20=0.85(1+g)^(4)`

G = 9%

Cost of Equity =
`((1.20)(1.09))/(53)+0.09`

= 11.47%