Grateway Inc. has a weighted average cost of capital of 11.5 percent. Its target capital structure is 55 percent equity and 45 percent debt. The company has sufficient retained earnings to fund the equity portion of its capital budget. The before-tax cost of debt is 9 percent, and the company's tax rate is 30 percent. If the expected dividend next period (D1) and current stock price are $5 and $45, respectively, what is the company's growth rate?
A) 2.68%
B) 3.44%
C) 4.64%
D) 6.75%
E) 8.16%

Question

Quizplus · Accepted Answer

The growth rate (g) can be calculated using the Gordon Growth Model (Dividend Discount Model): Cost of Equity = (D1 / P0) + g. The cost of equity can be derived from the WACC formula: WACC = (E/V) * Re + (D/V) * Rd * (1 - Tax Rate). Solving for g gives approximately 4.64%.