Question

Builtrite’s common stock is currently selling for $48 a share and the firm just paid an annual dividend of $2.80 per share. Management believes that dividends and earnings should grow at 8% annually. Since new stock would need to be sold to finance an expansion, Builtrite expects flotation costs to be 5% of the expected selling price of $48 a share. Based on this, and a marginal tax rate of 34%, what is the cost of new common stock?

Answer 1

Answer:

So the cost of new stock will be 14.63 %

Explanation:

We have given dividend for next year = $2.80

Stock price = $48

Flotation rate = 5 %

Growth rate = 8 %

We have to find the cost of new common stock

We know that cost of new common stock is given by

Cost of new stock $=\frac{dividend\ for\ next\ year}{stock\ price(1-flotation\ rate)}+growth\ rate$

= $=\frac{2.8\times (1+0.08)}{48\times (1-0.05)}+0.08=0.1463=14.63%$

So the cost of new stock will be 14.63 %