Rivoli Inc. hired you as a consultant to help estimate its cost of common equity. You have been provided with the following data: D0 = $0.80; P0 = $22.50; and g = 8.00% (constant). Based on the DCF approach, what is the cost of common from retained earnings?

The cost of retained earnings is 11.84%

Explanation:

The discounted cash flow approach or dividend discount model is used to calculate the fair value of the stock based on the present value of the expected future dividends (cash flows) from the stock. The formula to calculate the value of the stock today is,

P0 = D0 * (1+g) / (r - g)

Where,

As we already know the D0, P0 and the growth rate in dividends, we can calculate the value of r or the cost of equity by putting in the available values for D0, P0 and g in the formula and solve it.

22.5 = 0.8 * (1+0.08) / (r - 0.08)

22.5 * (r - 0.08) = 0.864

22.5r - 1.8 = 0.864

22.5r = 0.864 + 1.8

r = 2.664 / 22.5

r = 0.1184 or 11.84%

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explanation:

a manufacturer of printed circuit boards uses exponential smoothing with trend to forecast monthly demand of its product. at the end of december, the company wishes to forecast sales for january. the estimate of trend through november has been 200 additional boards sold per month. average sales have been around 1000 units per month. the demand for december was 1100 units. the company uses α = 0.20 and β = 0.10. make a forecast including trend for the month of january.