Question

mal text - Arial -11B I A L E 15 EE 1 2 3 4 . . . 5 6 7 . ABC Company currently pays a dividend of $1.2 pay share; the company's stock is selling at $55 per share and its dividend is expected to grow at 7% a year. What's its cost of equity under DGM?

Answer 1

Under dividend growth model (DGM) the price is calculated as:
Price=(Next year dividend)/(Cost of equity - Growth rate)
Next year dividend=1.2*(1+7%)=1.284

=>55=(1.284)/(Cost of equity - 7%)

(Cost of equity - 7%)=(1.284)/55       
Cost of equity =0.023345455 +7%=0.093345455 or 9.33% (Rounded to two decimal places)