The Evanec Company’s next expected dividend, D_1, is $3.18; its growth rate is 6%; and its common stock now sells for $36.00. New stock (external equity) can be sold to net $32.40 per share.
What is Evanec’s cost of retained earnings, r_s?
What is Evanec’s percentage flotation cost, F?
What is Evanec’s cost of new common stock, r_e?
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To calculate the cost of retained earnings (r_s), we can use the dividend growth model. The formula for the cost of retained earnings is:
r_s = (D_1 / P_0) + g
Where:
D_1 = Expected dividend for next year
P_0 = Current stock price
g = Growth rate
Given that D_1 = $3.18, P_0 = $36.00, and g = 6%, we can substitute these values into the formula:
r_s = (3.18 / 36.00) + 0.06
r_s = 0.0883 + 0.06
r_s = 0.1483 or 14.83%
So, Evanec's cost of retained earnings (r_s) is 14.83%.
To calculate the percentage flotation cost (F), we can use the following formula:
F = (P_0 - Net Proceeds) / P_0
Where:
P_0 = Current stock price
Net Proceeds = Price per share after flotation costs are deducted
Given that P_0 = $36.00 and Net Proceeds = $32.40, we can substitute these values into the formula:
F = (36.00 - 32.40) / 36.00
F = 3.60 / 36.00
F = 0.10 or 10%
So, Evanec's percentage flotation cost (F) is 10%.
To calculate the cost of new common stock (r_e), we can use the following formula:
r_e = (D_1 / Net Proceeds) + g
Where:
D_1 = Expected dividend for next year
Net Proceeds = Price per share after flotation costs are deducted
g = Growth rate
Given that D_1 = $3.18, Net Proceeds = $32.40, and g = 6%, we can substitute these values into the formula:
r_e = (3.18 / 32.40) + 0.06
r_e = 0.0981 + 0.06
r_e = 0.1581 or 15.81%
So, Evanec's cost of new common stock (r_e) is 15.81%.