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CMA Intermediate · Financial Management and Business Data Analytics · Cost of Capital

Sundaram Textiles Ltd's equity shares have a current market price of Rs 200. The company expects to pay a dividend of Rs 12 per share at the end of the year, and dividends are expected to grow at a constant 6% per annum. What is the cost of equity under the dividend growth model?

The cost of equity is 12%. Under the dividend growth model, Ke equals the expected dividend divided by current price plus growth: 12/200 = 6% plus 6% growth. The Rs 12 is already next year's dividend, so it must not be grown again.

  1. A6.0%
  2. B10.0%
  3. C12.0%Correct
  4. D12.72%

Explanation

Ke = D1/P0 + g = 12/200 + 0.06 = 0.06 + 0.06 = 12%. The 6% option counts only the dividend yield, and 10% is not derived from the data. The 12.72% option wrongly multiplies D1 by (1+g) again, although the Rs 12 is already the expected year-end dividend.

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