Murray Motor Company wants you to calculate its cost of common stock. During the

Question

Murray Motor Company wants you to calculate its cost of common stock. During the next 12 months, the company expects to pay dividends (D1) of $2.20 per share, and the current price of its common stock is $40 per share. The expected growth rate is 7 percent.

a. Compute the cost of retained earnings (Ke). (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)
  

b. If a $2 flotation cost is involved, compute the cost of new common stock (Kn). (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)
  

Explanation / Answer

a.Cost of retained earnings=(D1/Current price)+Growth rate

=(2.2/40)+0.07

=12.5%

b.Cost of new common stock=(D1/Current price-Floatation cost)+Growth rate

=(2.2/(40-2)+0.07

=(2.2/38)+0.07

=12.79%(Approx).

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