Javits & Sons\' common stock currently trades at $37.00 a share. It is expected

Question

Javits & Sons' common stock currently trades at $37.00 a share. It is expected to pay an annual dividend of $2.25 a share at the end of the year (D1 = $2.25), and the constant growth rate is 5% a year.

What is the company's cost of common equity if all of its equity comes from retained earnings? Round your answer to two decimal places.

______%

If the company were to issue new stock, it would incur a 18% flotation cost. What would the cost of equity from new stock be? Round your answer to two decimal places.

______%

Explanation / Answer

Hi,

Please find the detailed answer as follows:

Part A:

Cost of Common Equity (With the Use of Retained Earnings) = D1/Current Market Price Per Share + Growth Rate

Cost of Common Equity = 2.25/37 + .05 = 11.08%

Part B:

Cost of Common Equity (With the Issue of New Stock) = D1/Current Market Price Per Share After Adjustment for Floatation Cost + Growth Rate

Current Market Price Per Share After Adjustment for Floatation Cost = Current Market Price Per Share*(1- Floatation Cost %) = 37*(1-18%) = 30.34

Cost of Common Equity = 2.25/30.34 + .05 = 12.42%

Notes:

Floatation cost if required to be applied only in the case of new issue of common stock.

Thanks.

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