Problem 10-4 Cost of Equity with and without Flotation Jarett & Sons\'s common s

Question

Problem 10-4
Cost of Equity with and without Flotation

Jarett & Sons's common stock currently trades at $34.00 a share. It is expected to pay an annual dividend of $1.50 a share at the end of the year (D1 = $1.50), 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. Do not round your intermediate calculations.
%

If the company issued new stock, it would incur a 17% flotation cost. What would be the cost of equity from new stock? Round your answer to two decimal places. Do not round your intermediate calculations.
%

Explanation / Answer

a. Re = (D1 / P0) + g

= ($1.50 / $34) + 0.05

= 0.0941 or 9.41%

b. Re = [D1 / (P0 - Flotation costs)] + g

= [$1.50 / ($34 - $5.78)] + 0.05

= 0.1032 or 10.32%

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