Question 2 (1 point) Last year the Black Water Inc. paid dividends $318. Company

Question

Question 2 (1 point) Last year the Black Water Inc. paid dividends $318. Company's dividends are expected to grow at an annual rate of 5% forever. The company's common stock is currently selling on the market for $6333. The investments banker will charge flotation costs $3.06 per share. Calculate the cost of common equity financing using Gordon Model Round the answers to two decimal places in percentage form. (Write the percentage sign in the "units bax) Your Answer. Answer units Save Next Page Page 2 of 25 Save Atl Responses Go to Submit Quiz

Explanation / Answer

In the question the cost of common equity financing is required and not the cost of common equity. This essentially means that one needs to calculate the cost of issuing new equity by incorporating the flotation cost of $3.06 per share

Expected Dividend Next Year = D1 = 3.18 x ( 1 + Growth Rate) = 3.18 x 1.05 = $ 3.339, where Annual growth rate = 5% and Current Stock price = 63.33 = P0

Flotation Cost as Proportion of Current Stock Price = f = 3.06 / 63.33 = 0.0483

Let the cost of equity financing be R(e)

Therefore, R(e) = [D1 / P0 x (1-f)] + g = [ 3.339 / 63.33 x (1 - 0.0483) ] + 0.05 = .1055 or 10.55 %

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