Question

Barton Industries expects next year's annual dividend, D1, to be $2.00 and it expects dividends to...

Barton Industries expects next year's annual dividend, D1, to be $2.00 and it expects dividends to grow at a constant rate g = 4%. The firm's current common stock price, P0, is $21.90. If it needs to issue new common stock, the firm will encounter a 4.9% flotation cost, F. Assume that the cost of equity calculated without the flotation adjustment is 12% and the cost of old common equity is 11.5%.

What is the flotation cost adjustment that must be added to its cost of retained earnings? Round your answer to 2 decimal places. Do not round intermediate calculations.
%

What is the cost of new common equity considering the estimate made from the three estimation methodologies? Round your answer to 2 decimal places. Do not round intermediate calculations. %

Homework Answers

Answer #1
1) Cost of new equity with floatation cost = D1/{P0*(1-f) + g
where D1 = next expected dividend, f=floatation cost and
g = growth rate.
Substituting values we have
Cost of new equity with flotation cost = 2/((21.90*(1-0.049))) + 0.04 = 13.60%
2) Flotation cost adjustment = Cost of equity with flotation cost-Cost of equity without flotation cost = 13.60% - 12.00% = 1.60%
3) Cost of new equity = Cost of old equity (retained earnings)+Flotation cost adjustment factor =11.5%+1.6% = 13.10%
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