The Green Balloon just paid its first annual dividend of $0.12 a share.The firm plans to increase the dividend by 3.5 percent per year indefinitely.What is the firm's cost of equity if the current stock price is $6.50 a share?

Question

Quizplus · Accepted Answer

Using the dividend discount model, we can calculate the cost of equity:

$6.50 = $0.12 / (r - 0.035)
$r - 0.035 = $0.12 / $6.50
$r = ($0.12 / $6.50) + 0.035
$r = 0.018 + 0.035
$r = 0.0535 or 5.35%

Therefore, the cost of equity is 5.41% (rounded to two decimal places), which is closest to option B.

The Green Balloon Just Paid Its First Annual Dividend of $0.12