Fundamentals of Financial Manageme...
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Fundamentals of Financial Manageme...
COST OF COMMON EQUITY The Bouchard Company’s EPS was $6 50 in 2015, up from $4 42 in 2010. The company pays out 40% of its earnings as dividends, and its common stock sells for $36 00.
- a. Calculate the past growth rate in earnings. (Hint: This is a 5-year growth period.)
- b. The last dividend was D0 0 4 ($6.50) = $2.60. Calculate the next expected dividend, D1, assuming that the past growth rate continues.
- c. What is Bouchard’s cost of retained earnings, rs?
a.
To calculate: The past growth rate in the earnings.
Cost of Equity:
It is the cost of the company while raising finance by issuing equity. It is earnings from the investment to the firm’s equity investors. It is the return to the stockholder holders’ equity investments.
Given,
EPS in year 2015 is $6.50.
EPS in year 2010 is $4.42.
Growth period is 5 years (2010 to 2015).
The formula to calculate EPS for year 2015 is,
Substitute $6.50 for
b.
To calculate: The next expected dividend
c.
To identify: The cost of retained earnings.
Cost of Retained Earnings:
A company can raise its capital by issuing new shares of by retaining its current earnings. The retained earnings is assumed as free cost generally but it is wrong because the cost of retained earnings can be measured as per opportunity cost principle.
If the company has no retained earning company issues new shares in which the shareholders earn the dividend. Thus, the loss of dividend can be considered as opportunity cost of the retained earnings.
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