CA Intermediate · Financial Management and Strategic Management · Cost of Capital
Kaveri Foods' equity shares have a current market price of ₹250 and the company has just paid a dividend of ₹10 per share. Dividends are expected to grow at a constant 5% per year. What is the cost of equity using the dividend growth model?
The cost of equity is 9.20%. The next dividend is 10 × 1.05 = ₹10.50, giving a dividend yield of 10.50/250 = 4.2%, and adding the 5% growth rate gives 9.2%. Using the last dividend of ₹10 would understate it at 9%.
- A9.00%
- B9.20%Correct
- C8.00%
- D9.40%
Explanation
Ke = D1/P0 + g, where D1 = 10 × 1.05 = ₹10.50. D1/P0 = 10.50/250 = 4.2%. Ke = 4.2% + 5% = 9.2%. Using D0 instead of D1 gives 4% + 5% = 9%, which is wrong because the dividend already paid is not the next-year dividend.
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