Hi :) can you please help me with this. Thank you! Chapter 10 problem 5 Quantita
ID: 2738783 • Letter: H
Question
Hi :) can you please help me with this. Thank you!
Chapter 10 problem 5
Quantitative Problem:
Barton Industries expects next year's annual dividend, D1, to be $2.30 and it expects dividends to grow at a constant rate g = 4.6%. The firm's current common stock price, P0, is $20.50. 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.
Explanation / Answer
1. Flotation cost adjustment = Required rate of return with flotation cost adjustment - Required rate of return withuot flotation cost adjustment
= 16.4% - 12 % = 4.4%
cost of new equity using the dividend growth rate = (Dividend / (Price * (1-Flotation Cost) ) + Growth Rate
=[ 2.3 / 20.5 * (1-0.049) ] + 0.046
= 0.164 = 16.4%
2. Cost of common equity
a.Dividend growth model - Ke =( D1 / P0) + g = 2.3 / 20.5 + 0.046 = 15.82%
b.CAPM model Ke = Rf + BETA * (risk premium) - since beta not available cant be caluclated
c. cost of new equity - Ke = ( D1 / [P0 - F]) + g = { 2.3 / [20.5 - 4.9%] } + 0.046 = 16.4%