Dudek Manufacturing's common stock is currently selling for $45/share. Their most recent dividend (annual)was $2.50, and is expected to grow at 5% per year indefinitely. What is Dudek's cost of retained earnings?

Question

Quizplus · Accepted Answer

The cost of retained earnings can be calculated using the Gordon Growth Model (Dividend Discount Model): Cost of Equity = (D1 / P0) + g, where D1 is the expected dividend next year, P0 is the current stock price, and g is the growth rate. Here, D1 = $2.50 * (1 + 0.05) = $2.625, P0 = $45, and g = 0.05. Thus, Cost of Equity = ($2.625 / $45) + 0.05 = 0.0583 + 0.05 = 0.1083 or 10.83%.

Dudek Manufacturing's Common Stock Is Currently Selling for $45/share