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Stock in CDB Industries has a beta of 1.14. The market risk premium is 7.4 percent, and T-bills are currently yielding 4.4 percent. The most recent dividend was $3.80 per share, and dividends are expected to grow at an annual rate of 5.4 percent indefinitely. The stock sells for $60 per share. Using the CAPM, what is your estimate of the company's cost of equity?

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Answer:

7.82%

Explanation:

In CAPM (capital asset pricing model), cost of equity = Risk free rate of return + Beta × (market rate of return – risk free rate of return)

T-bill is treasury bill backed up by governement, then cosidered is risk free rate.

Using the CAPM, the company's cost of equity = T-bills yielding 4.4% + beta 1.14 x (market risk premium 7.4% -  T-bills yielding 4.4%)

= 4.4% +1.14*(7.4%-4.4%) = 7.82%

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