Quantitative Problem: Barton Industries expects next year\'s annual dividend, D1
ID: 2796416 • Letter: Q
Question
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 = 4.2%. The firm's current common stock price, P0, is $21.30. If it needs to issue new common stock, the firm will encounter a 4.7% 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
a) Cost of equity = Equity Cost x (1 - Flotation cost) = 12% x (1 - 4.7%) = 11.44%
b) Using dividend growth model,
Cost of equity = D1 / P0 x (1 - F) + g = 1.60 / (21.30 x (1 - 4.7%)) + 4.2% = 12.08%