Quantitative Problem: Barton Industries expects
next year's annual dividend, D1, to be $1.60 and it expects
dividends to grow at a constant rate g = 4.4%. The firm's current
common stock price, P0, is $22.00. If it needs to issue new common
stock, the firm will encounter a 5.5% 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.
Current Stock price = $22.00
Floatation cost = 5.50%
Net proceed from sale of equity = $22 × (1 - 5.50%)
Net proceed from sale of equity is $20.79.
Cost of equity financed externally = (Expected dividend / Net proceed) + Growth rate
= ($1.60 / $20.79) + 4.40%
= 7.70% + 4.40%
Cost of equity financed externally is 12.10%.
Cost of equity without floatation cost adjustment = 12%
Floatation cost adjustment = 12.10% - 12%
Floatation cost adjustment is 0.10%.
Cost of new equity = Cost of old equity + Floatation cost adjustment
= 11.50% + 0.10%
Cost of new equity is 11.60%.
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