Question

answer fully thank you!

Cost of Common Equity: Cost of Retained Earnings,r: Suppose that (1) the risk free return is 6 (2) the average stock return (e. the market return) is 11N (3) Allied stock's beta (ie, stock's market risk) is 16; (4) the next dividend payment will be $2; (4) the growth rate of the dividend is 6%; (5) the current market price of the stock is $25; and (6) the risk premium on Allied's stock over Allied's bond is 4%. Given the information above, calculate the cost of retained earnings using (1) Capital Asset Pricing Model, CAPM, approach (2) Bond yield-plus-risk-premium approach and (3) Discounted Cash Flow, DCF, approach (1) CAPM approach: (2) Bond-yield-plus-risk-premium approach: (Hint: bond yield has been calculated in the previous question.) (3) DCF approach: What is the range of your estimations? What is the midpoint of this range?

Answer 1

Hello,

As per CAPM method, Rf =6%

B = 1.6

Market Return = 11%

Cost of retrained earnings = riskfree rate + (beta*market rate of return - risk free rate)

=0.06+(1.65*(.11-.06))

=0.14

cost of retained earning is 14%

Answer 2 :

Bond Yield plus risk premium approach

=bond yield + risk premium

Bond yield data is missing. Question mentions that it was calculated in some other question

So taking that figure and add 4% to it

Answer3

DCF method

CMP of stock = $25

Dividend = $2

Dvidend growth = 6%

=(Expected dividend payment/current stock price)+dividend growth rate

= ((2*1.06)/25)+0.06

= 14.48%

Hope this helps!!