Question

eBook Problem Walk-Through Cost of Equity Radon Homes' current EPS is $7.90. It was $3,61 5 years ago. The company pays out 50% of its earnings as dividends, and the stock sells for $32. a. Calculate the historical growth rate in earnings. (Hint: This is a 5-year growth period.) Do not round intermediate calculations. Round your answer to two decimal places b. Calculate the next expected dividend per share, D. (Hint: Do - 0.50($7.90) - $3.95.) Assume that the past growth rate will continue. Do not round intermediate calculations. Round your answer to the nearest cent. c. What is Radon's cost of equity, Do not pund intermediate calculations. Round your answer to two decimal places

Answer 1

(a) Historical growth rate in earnings = 16.96%

Calculation - ( On Financial Calculator )

PV = (-) $3.61

FV = $7.90

N = 5

Solve for I or rate = 16.96%

Alternate solution : -

$7.90 = $3.61 ( 1 + g )5

g = 16.96%

(b) Next expected dividend per share = $4.62

Calculation -

D1 = D0 ( 1 + g )

D1 = $3.95 (1.1696)

D1 = $4.62

(c) Cost of Equity = 32.40%

Calculation:-

Formula = [ (D1 / P0) + g ] x 100

D1 = Next year's Dividend per share = $4.62(calculated above)

P0 = Current Share price (given in question - $32 )

G = growth rate ( calculated above - 16.96 )

Therefore :-

Cost of Equity = [ ($4.62 / $32) + 0.1696 ] x 100

Cost of Equity = 32.40%