Question

Barton Industries expects next year's annual dividend, D1, to be $2.40 and it expects dividends to grow at a constant rate g = 4%. The firm's current common stock price, P0, is $20.00. If it needs to issue new common stock, the firm will encounter a 5.7% flotation cost, F. What is the flotation cost adjustment that must be added to its cost of retained earnings? Do not round intermediate calculations. Round your answer to two decimal places. %

What is the cost of new common equity considering the estimate made from the three estimation methodologies? Do not round intermediate calculations. Round your answer to two decimal places. %

Answer 1

Barton Industries

Cost of Equity Calculation

Dividend Growth Model;

Next year's Dividend =D1=$2.4

Dividend growth rate =g=4%

Price of share=P0=$20

Let us assume the cost of equity =k

As per Dividend growth model ;

P0=D1/(k-g)

20=2.4/(k-0.04)

k=16%

So Cost of Equity as per Dividend Growth

model is 16%

As the beta of equity, risk free rate, rate

of market return and the current year

dividend not available, we cannot decide

cost of equity by CAPM or Dividend discount

Model.