Will Co.is expected to pay a dividend of $2 per share at the end of year 1(D₁),and the dividends are expected to grow at a constant rate of 4% forever.If the current price of the stock is $20 per share,calculate the expected return or the cost of equity capital for the firm. A)10% B)4% C)14% D)20%

Question

Quizplus · Accepted Answer

The expected return or the cost of equity capital (r) can be calculated using the Gordon growth model as follows:

r = (dividend yield) + (expected dividend growth rate)

dividend yield = dividend per share / current market price per share = $2 / $20 = 0.1

expected dividend growth rate = 4%

Therefore, r = 0.1 + 0.04 = 0.14 or 14%

Hence, the expected return or the cost of equity capital for the firm is 14%. The best choice is C.

Will CoIs Expected to Pay a Dividend of $2 Per Share