Question

You expect ZOZO Inc. will have earnings per share of $3 this year and expect that they will pay out $1.50 of these earnings to shareholders in the form of a dividend. ZOZO's return on new investments is 15% and their equity cost of capital is 12%. The expected growth rate for ZOZO's dividends is closest to:

Answer 1

Answer:

Dividend pay-out ratio = $1.50/$3 x 100 = 50%

Retention rate (b) = 50% = 0.5

Return on new investment (r) = 15% = 0.15

Growth rate = retention rate x return on new investment

Growth rate = 0.5 x 0.15

Growth rate = 0.075 = 7.5%

Explanation:

Since the dividend pay-out ratio is 50%, it implies that retention rate is 50%. Return on new investment is 15%. Growth rate is the product of retention rate and return on new investment.