The Jackson Company just paid a dividend equal to $3.00 per share on its common stock, and it expects this dividend to grow by 7 percent per year indefinitely. The firm has a beta coefficient equal to 1.50, the risk-free rate is 10 percent, and the expected return on the market is 14 percent. According to the capital asset pricing model, what is Jackson's cost of retained earnings, r_s?

Question

Quizplus · Accepted Answer

The cost of retained earnings can be calculated using the capital asset pricing model (CAPM):

rs = rf + β*(rm – rf)

where rs is the cost of retained earnings, rf is the risk-free rate, β is the firm's beta, and rm is the expected return on the market.

Substituting the given values:

rs = 10% + 1.50*(14% – 10%)

rs = 10% + 1.50*4%

rs = 16%

Therefore, the cost of retained earnings for Jackson Company is 16%. Hence, the correct answer is option D.

The Jackson Company Just Paid a Dividend Equal to $3