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If the company issues new common stock, it will sell for $50 per share with a floatation cost of...

Question:

If the company issues new common stock, it will sell for $50 per share with a floatation cost of $9 per share. The last dividend paid was $3.80 and this dividend is expected to grow at a rate of 7% for the foreseeable future. What is the cost of new equity to the firm?

Company info: the capital structure for firm will be maintained and is not 10% preferred stock, 30% debt and 60% new common stock. No retained earnings are available. Marginal tax rate for the firm is 40%.

Cost of Equity:


The above question about calculating the cost of new equity. Cost of new equity is obtained by adjusting the current share price for the flotation cost of the new issue. Thus the price of the new issue is less than the current price per share.

Answer and Explanation:


Cost of new equity, Ke = (D0 / P0 - FC)+ G

Or, Ke = $3.8 / $50 - $9 + 0.07

= 0.1627 or 16.27%


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Cash Dividends & Dividend Payment

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