were recently hired by Garrett Design, Incto estimate its cost of common equity You obtained the following data: D1 = $1.75; P0 = $42.50; g = 7.00% (constant); and F = 5.00% What is the cost of equity raised by selling new common stock?
A) 10.77%
B) 11.33%
C) 11.90%
D) 12.50%
E) 13.12%

Question

Quizplus · Accepted Answer

First, we need to calculate the cost of equity with the dividend discount model:
Ke = (D1/P0) + g
Ke = (1.75/42.5) + 0.07
Ke = 0.1153 or 11.53%
Next, we need to adjust for flotation costs using the following formula:
Ke(new) = Ke / (1 - F)
Ke(new) = 0.1153 / (1 - 0.05)
Ke(new) = 0.1211 or 12.11%
So, the cost of equity raised by selling new common stock is 11.33%. Therefore, the best choice is B.

Were Recently Hired by Garrett Design, Incto Estimate Its Cost