Question

COST OF COMMON EQUITY WITH FLOTATION Banyan Co.’s common stock currently sells for \$54.75 per share....

COST OF COMMON EQUITY WITH FLOTATION

Banyan Co.’s common stock currently sells for \$54.75 per share. The growth rate is a constant 9.6%, and the company has an expected dividend yield of 6%. The expected long-run dividend payout ratio is 20%, and the expected return on equity (ROE) is 12%. New stock can be sold to the public at the current price, but a flotation cost of 15% would be incurred. What would be the cost of new equity? Round your answer to two decimal places. Do not round your intermediate calculations.

_________ %

 Solution: Cost of new equity = 16.66% Working Notes: Current stock price (P0) = \$54.75 growth rate (g) =9.6% Expected Dividend (D1)=Current price x Expected dividend yield % =\$54.75 x 6% =\$3.285 Price net of flotation cost = current price x (1-flotation cost) =\$54.75 x (1-0.15) =\$54.75 x 0.85 =\$46.5375 Cost of new equity (Ke) = (Expected Dividend (D1)/price net of flotation cost ) + Growth rate =(\$3.285/\$46.5375) + 9.6% =6.315789 % + 9.6% =16.658823 =16.66% Please feel free to ask if anything about above solution in comment section of the question.

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