Firm ABC expects an EPS of ₹20 and a dividend of ₹8 per share at the end of next year (that is, D1 = ₹8). If its required return is 12% and its stock is currently priced at ₹120 under the constant growth model assumption, what is the firm’s implied Return on Equity (RO

We work backwards. First we find the growth rate implied by the market price, and then use g = b × ROE to get the ROE. Payout ratio = 8/20 = 40%, so the retention ratio b = 60%. Taking the dividend of ₹8 as D1 and using the constant growth model: P0 = D1/(ke - g) 120 = 8/(0.12 - g) 0.12 - g = 8/120 = 0.0667 g = 0.12 - 0.0667 = 0.0533, i.e. 5.33% Since g = b × ROE, ROE = g/b = 5.33%/0.60 = 8.89% Verification: g = 0.60 × 8.89% = 5.33%, and P0 = 8/(0.12 - 0.0533) = 8/0.0667 = ₹120. The question states that ₹8 is the next year’s dividend D1. If it were the current dividend D0, the implied ROE would be 8.33%, which is not among the options. Since ROE (8.89%) is below ke (12%), retention reduces value, so ₹120 is below the no-growth value of ₹166.67. Hence the correct option is (A).