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25 June, 14:09

Gangland Water Guns, Inc. is expected to pay a dividend of $2.10 one year from today. If the firm's growth in dividends is expected to remain at a flat 3 percent forever, then what is the cost of equity capital for Gangland if the price of its common shares is currently $17.50

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  1. 25 June, 14:35
    0
    15%

    Explanation:

    we can use the Gordon growth model to determine the required rate of return:

    current stock price = future dividend / (required rate of return - growth rate)

    $17.50 = $2.10 / (required rate of return - 3%)

    required rate of return - 3% = $2.10 / $17.50 = 0.12 = 12%

    required rate of return = 12% + 3% = 15%
  2. 25 June, 15:08
    0
    Given:

    D1 = $2.10

    Po = $17.50

    g = 3 %

    Po = D1 / (r - g)

    Where,

    Po = current stock price

    D1 = dividend paid per year

    r = rate of returns

    = cost of equity

    g = rate of growth of dividend

    r = (D1 + (g * Po)) / Po

    Inputting their values,

    r = (2.10 + (0.03 * 17.5)) / 17.5

    = 0.15

    = 15%
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