Question

What is the​ after-tax cost of the following preferred​ equity? The par value of the preferred share is ​$100 and the annual dividend is 5​%. The preferred shares have no stated maturity. The current market price of the share is ​$65. Assume that the corporate tax rate is 38​%

Answer 1

Given about a preferred share,

Par value = $100

annual dividend rate = 5%

Current market price = $65

So annual dividend = annual dividend rate*par value = 5% of 100 = $5

cost of preferred equity Kp is calculated using formula,

Kp = annual dividend/current price = 5/65 = 7.69%

tax rate T = 38%

Dividend payments to preferred stocks are paid using after-tax cash flows from a firm. Therefore, after-tax cost of preferred equity is same as before tax Kp

, After-tax cost of preferred equity = 7.69%