2. Cost of Common Equity with Flotation Banyan Co.’s common stock currently sell

Question

2. Cost of Common Equity with Flotation Banyan Co.’s common stock currently sells for $49.25 per share. The growth rate is a constant 8.4%, and the company has an expected dividend yield of 5%. The expected long-run dividend payout ratio is 40%, and the expected return on equity (ROE) is 14%. New stock can be sold to the public at the current price, but a flotation cost of 10% would be incurred. What would be the cost of new equity? Round your answer to two decimal places. Do not round your intermediate calculations.

Explanation / Answer

Part 1 All Amounts In $ Dividend yield 5% Common Stock price $49.25 Per share Dividend = Price of per share * Dividend yield $49.25*5% = 2.46 Part 2 Dividend Payout Ratio 40% Retaintion Ratio = 100%-dividend payout ratio = 100%-40% = 60% Rate of return on investment= 14% Flotation cost 10% Growth = Retaintion Ratio*Rate of return on investment = .60*.14 = 0.084 = 8.40% New cost of equity   = Dividend per share/(current market price of stock - floatation cost) + growth rate = 2.46/(49.25-4.93) + .084 0.14 14% Workng note : Floatation cost   = current market price * rate of floatation cost = $49.25*.10 4.93

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