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Homework answers / question archive / Question 44 Not yet Gerina Inc
Question 44 Not yet Gerina Inc. is expected to pay a cash dividend of $2.50 this coming year. The stock is currently selling for $56.00 per share and the firm's expected constant growth rate is 5,00%. If Axelrod, Inc. issues new.common stock, its rotation costs will be 54.00 per share. What will the firm expect its cost of new common stock to be? answered Points out of 1 P Rag question Select one: O A. 7,5196 OB. 8,64% O C. 9.81% D. 10.05% Question 45 The cost of equity capital in the form of new common stock will be higher than the cost of retained earnings because of Tot yet swered Dints out of 1 Flag question Select one: O A. the existence of taxes. O B. the existence of flotation costs. O Cinvestors unwillingness to purchase additional shares of common stock O D. the existence of financial leverage.
Answer(44):
Step 1-
Formula of cost of equity with floatig cost-
Cost of new equity (Ke) =[ D1 / P0 * (1-F) ] + g
Where:
D1 = Next year dividend
P0 = Current share price
F = % of floating cost of issue price of the stock
g = Dividend growth rate
Given in the question:
D1 = $2.50, P0 = $56, F = $4 per share, g = 5%
Step 2-
Floating cost is given in dollar amount, we have to convert it into %.
Floating cost percentage of current price of the stock:
$4 is 7.14% of $56 hence 7.14% will be taken as Floating cost
Step 3-
Cost of new equity (Ke) = [2.50 / 56 * (1-.0714) ] + .05
Cost of new equity (Ke) = (2.50 / 52) + .05
Cost of new equity (Ke) = .09807 or 9.81%
Option "C" is correct.
Answer(45):
Option "B" is correct that says, "The existence of floating cost".
Due to floating cost, cost of issuing new common stock increases. Floating cost is the cost when a public company offers its shares to the public. It includes underwriter fee, registration fee and legal fee.
