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about to pay div of $0.50, EPS=$1.50 ,Net assets per share=$6, current share price=$4.50/share
cost of equity?
according to the formula it shouldnt be cost of equity=0.50/4.50=11.11%?No.
You need to use the dividend growth formula ‘backwards’ (since we know the market value, you can calculate Re) but for this you also need the dividend growth rate. For the dividend growth rate you need to use Gordons growth approximation. You know the rate of the retention and you know the return on investment, so the dividend growth rate is 16.7%.
Also, in the dividend growth formula Po is the ex div market value. The value given in the question of $4.50 is the cum div value (because they are about to pay a dividend. The ex div value is 4.50 – 0.50 = $4.00
(Our free lectures on the cost of equity do cover all of the above).
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