The Weighted Average Cost of Capital
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guideline_for_question_b.docxHere is a guideline for question (b) of Assignment 2:
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B. If the company issues new common stock, it will sell for $30 per share with a flotation cost of $5 per share. The last dividend paid was $2.50 and this dividend is expected to grow at a rate of 5% for the foreseeable future. What is the cost of new equity to the firm? What are the advantages and disadvantages of issuing new equity in the capital structure? |
D1 = next period's dividend = last dividend x (1+g) where g is the growth rate of dividends. Express as a decimal, 5% = 5/100 = 0.05. D1 = $2.50 x (1+0.05) = $2.625 (Block et al, 2009).
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B. The cost of new common stock issue = Kncs =D1/[(Price-F.Costs)] + g = $2.50[(1+.05)/($30-5)] + 5% = 0.105 + .05 = 0.155 x 100 = 15.50% Read text chapters & lecture notes for advantages and disadvantages of issuing new equity. Use your own words in assignment. Block, B., Hirt, G., & Danielson, B. (2009).Foundations of Financial Management (13th ed.). New York, NY: McGraw-Hill |
