Using the Gordon Model, estimate the cost of retained earnings for a firm whose stock is currently selling for $40, paid a dividend of $.75 last year, and whose growth is expected to be 6% indefinitely.

Question

Quizplus · Accepted Answer

The Gordon Model formula is:

Ke = (Dividend next year / Current price) + Expected growth rate

Ke = ($.75 x 1.06 / $40) + 0.06

Ke = 0.0799 or 7.99%

Therefore, the cost of retained earnings for this firm is 7.99%. The closest choice is option B).

Using the Gordon Model, Estimate the Cost of Retained Earnings