This is a question from practise manual. Please note the highlighted part,for growth rate calculation,as per me,opportunity cost should have been used,but here Ke is used. Where am I wrong?
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Growth rate is calculated as g=b*ke..
n that has been rightly used..
15% is not the cost of equity it's return on equity. Moreover growth is a product of return on Equity and rate of retained earnings . g=b*r. b=retained earnings and r= return on equity
Agreed with above answers......
Simple question to u will answer ur query.
What will grow in future?
1) something what u currently have in hand or
2) the one which you would have had?
Return on equity is available rate of return on the amt. Which investor has invested, i.e. 'r'. And opportunity cost of capital is the cost (i.e. rate) which investor may earn if he invested his money elsewhere (i.e. cost of capital - ke).
g = b*r
Here r is 15%
Return on equity is available rate of return on the amt. Which investor has invested, i.e. 'r'. And opportunity cost of capital is the cost (i.e. rate) which investor may earn if he invested his money elsewhere (i.e. cost of capital - ke).
g = b*r
Here r is 15%
really nice Question! Good work Zoya.
The solution is absolutely correct..
Growth = retention ration * return on equity/rate on investment
Thank you all for your replies. My query is,when we calculate growth rate,we use the formula g=b*r,where r is rate of return on retained earnings. Opportunity cost of capital means the rate of return we can earn by investing elsewhere other than company's shares. Is that not more representative of the rate of return on retained earnings rather than cost of equity,because of cost of equity is what the investor expects,not what the company expects.
Please reply with fallacy in my argument.
if q given bvps of company then firstly calculate ke =8.27/127.80+.09=15%
here we assume bvps=P0
Cost of equity means what company expected to earn, not what company earns in actual. Return on equity is the actual earning of the company and hence it is used as 'r' in question.
| Originally posted by : g k verma | ||
 |
Cost of equity means what company expected to earn, not what company earns in actual. Return on equity is the actual earning of the company and hence it is used as 'r' in question. |  |
Sorry sir,but I dont agree with you here,Cost of capital has no relation to the earnings of the company. It just means what the company's shareholder's demands from the company.
Zoya....i have one answer for you....
See when we are calculating future value of your investment in a particular company you have to take the rate what company is offering you and not what you might have earned investing somewhere else...
you may replace wordings from future value to current market price.....
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