Question

You have collected the following data:

The outstanding debt instrument (bonds) yield is estimated at 7.75%; the applicable tax rate is 34%; the company is expected to have its next (expected) dividend is $0.65 a share; the dividend growth rate is expected to be at a constant rate of 6.00% a year.
The current stock price is $18.00 per share; the flotation cost for issuing debt is estimated at Fd = 5%; the flotation cost for selling new shares is estimated at Fcs = 10%;
The target capital structure is 40% debt and 60% common equity.

What is the firm's newly issuing cost of common stock?

Answer 1

Cost of equity = 9.8%

Cost of new equity = D1 / po x (1-F) + g

D1 = 0.65

po = 18

F = 5%

g = 6%

Cost of new equity = 0.65 / 18 x (1-0.05) + 0.06

= 0.65 / (18 x 0.95) + 0.06

= (0.65 / 17.1) + 0.06

= 0.03801 + 0.06

= 0.09801

= 9.8%