The cost of issuing new common stock is calculate the same way as the cost of raising equity...

Question:

The cost of issuing new common stock is calculate the same way as the cost of raising equity capital from retained earnings.

True

False

Cost of Equity and Flotation Costs:

This question touches on the cost of equity capital. Essentially, a firm's cost of equity reflects the rate of return the market demands in exchange for taking an ownership interest in the company. A variety of methods can be utilized to determine a firm's cost of equity. Two common methods include the dividend capitalization model and the capital asset pricing model (CAPM).

Answer and Explanation:

The statement is false. The cost of issuing new common stock is not calculated the same way as the cost of raising equity from retained earnings (self-financing). The former entails inclusion of the costs associated with the new issuance, which are referred to as flotation costs. They include underwriting fees, legal fees, and registration fees. Self-financing does not entail flotation costs, which makes this form of equity financing less costly.


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Cost of Capital: Flotation Cost, NPV & Internal Equity

from Corporate Finance: Help & Review

Chapter 3 / Lesson 18
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