Luther Industries has a dividend yield of 4.5% and a cost of equity capital of 12%. Luther Industries' dividends are expected to grow at a constant rate indefinitely. The growth rate of Luther's dividends is closest to:

Question

Quizplus · Accepted Answer

The constant growth rate of dividends can be calculated using the formula: g = (D1 / P0) + r, where D1 is the expected dividend for next year, P0 is the current stock price, and r is the cost of equity capital. Rearranging the formula, we get D1 = P0 * (g - r). Since we know the current dividend yield (D0 / P0) = 4.5%, we can estimate D0 = P0 * 0.045. Substituting these values, we get 0.045P0 = P0 * (g - 0.12), which simplifies to g = 0.12 + 0.045 = 0.075 or 7.5%. Therefore, the closest growth rate of Luther's dividends is 7.5% for Choice C).

Luther Industries Has a Dividend Yield of 4