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The market rate of return is 12.65 percent and the risk-free rate is 3.1 percent. Galaxy Co. has 15 percent more systematic risk than the overall market and has a dividend growth rate of 3.75 percent. The firm's stock is currently selling for $53 a share and has a dividend yield of 4.53 percent. What is the firm's average cost of equity

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Answer:

11.18%

Explanation:

The firm average cost of equity is shown below:

Under Dividend growth, the common stock is

= dividend growth rate + dividend yield

= 3.75% + 4.53%

= 8.28%

Under CAPM, the common stock is

= Risk-free rate of return + Beta × (Market rate of return - risk-free rate of return)

=3.1% + 1.15 × (12.65% - 3.1%)

= 14.08%

Now the average cost of equity of the firm is

= (8.28% + 14.08%) ÷ 2

= 11.18%

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