What is the cost of retained earnings for Foggy Futures Weather Forecasters? The firm is in the 40% tax bracket. The optimal capital structure is listed below: ? $$\begin{array} { | l | l | }
\hline \text { S ource of Capital } & \text { W eight } \
\hline \text { Long-Term Debt } & 25 \% \
\hline \text { Preferred Stock } & 20 \% \
\hline \text { Common Stock } & 55 \% \
\hline
\end{array}$$ ? $\begin{array}{|l|l|}
\hline \text { Debt: }&\begin{array}{ll}
\text {The firm can issue \( \$ 1,000 \mathrm{p} $ ar value, $ 8 \% $ coupon interest bonds with a 20 -year }\\text {maturity date. The bond has an average discount of $ \$ 30 $ and flotation costs of }\\text { $ \$ 30 $ per bond. The selling price is $ \$ 1,000 $.}
\end{array}\
\hline \text {Preferred Stock: }&\begin{array}{ll}
\text {The firm can sell preferred stock with a dividend that is $ 8 \% $ of the current price. }\\text { The stock costs $ \$ 95 $. The cost of issuing and selling the stock is expected }\\text {to be $ \$ 5 $ per share. }
\end{array}\
\hline \text {Common Stock: }&\begin{array}{ll}
\text {The firm's common stock is currently selling for $ \$ 90 $ per share. }\\text {The firm's common stock is currently selling for $ \$ 90 $ per share. The firm expects to pay cash dividends }\\text { The dividends have been growing at $ 6 \% $. The stock must be discounted by $ \$ 7 $, }\\text {and flotation costs are expected to amount to $ \$ 5 $ per share. }
\end{array}\
\hline \text { Retained Earnings:}&\begin{array}{ll}
\text { The firm expects to have enough retained earnings in the coming year to be used}\\text { in place of any new stock being issued. }
\end{array}\
\hline
\end{array}\)

Question

What is the cost of retained earnings for Foggy Futures Weather Forecasters? The firm is in the 40% tax bracket. The optimal capital structure is listed below: ? $$\begin{array} { | l | l | } 
\hline \text { S ource of Capital } & \text { W eight } \
\hline \text { Long-Term Debt } & 25 \% \
\hline \text { Preferred Stock } & 20 \% \
\hline \text { Common Stock } & 55 \% \
\hline
\end{array}$$ ? $\begin{array}{|l|l|}
\hline \text { Debt: }&\begin{array}{ll}
\text {The firm can issue \( \$ 1,000 \mathrm{p} $ ar value, $ 8 \% $ coupon interest bonds with a 20 -year  }\\text {maturity date. The bond has an average discount of $ \$ 30 $ and flotation costs of }\\text {  $ \$ 30 $ per bond. The selling price is $ \$ 1,000 $.}
\end{array}\
\hline \text {Preferred Stock: }&\begin{array}{ll}
\text {The firm can sell preferred stock with a dividend that is $ 8 \% $ of the current price.  }\\text { The stock costs $ \$ 95 $. The cost of issuing and selling the stock is expected }\\text {to be $ \$ 5 $ per share. }
\end{array}\
\hline  \text {Common Stock: }&\begin{array}{ll}
\text {The firm's common stock is currently selling for $ \$ 90 $ per share.  }\\text {The firm's common stock is currently selling for $ \$ 90 $ per share. The firm expects to pay cash dividends  }\\text {  The dividends have been growing at $ 6 \% $. The stock must be discounted by $ \$ 7 $, }\\text {and flotation costs are expected to amount to $ \$ 5 $ per share. }
\end{array}\
\hline \text { Retained Earnings:}&\begin{array}{ll}
\text { The firm expects to have enough retained earnings in the coming year to be used}\\text { in place of any new stock being issued. }
\end{array}\
\hline 
\end{array}\)

Quizplus · Accepted Answer

The cost of retained earnings for Foggy Futures Weather Forecasters can be calculated using the Gordon Growth Model (also known as the Dividend Discount Model for a growing dividend), which is given by the formula: $$r_e = \frac{D_1}{P_0} + g$$ where $r_e$ is the cost of equity (or the required rate of return on equity), $D_1$ is the dividend expected next year, $P_0$ is the current price of the stock, and $g$ is the growth rate of the dividends.Given that the firm's common stock is currently selling for $90 per share, dividends have been growing at 6%, and the stock must be discounted by $7 (which means the net proceeds from selling the stock would be $90 - $7 = $83), we can calculate the cost of retained earnings as follows:First, we need to find the expected dividend next year ($D_1$). However, the problem does not provide the current dividend ($D_0$). Since the cost of retained earnings is essentially the cost of equity and we are not given the current dividend, we cannot directly calculate $D_1$ without $D_0$. However, the cost of retained earnings is typically approximated by the cost of equity, which in this case, would be calculated based on the growth rate and the net proceeds from selling the stock (since retained earnings avoid the flotation costs). Given the lack of specific dividend information, we cannot directly calculate the cost of retained earnings using the Gordon Growth Model formula as intended. The correct answer would typically involve using the current stock price, the growth rate, and adjusting for any net proceeds or costs. Since the question does not provide enough information to calculate $D_1$, we must rely on the provided options without a direct calculation.The correct choice, based on the information given and typical finance principles, would be an approximation or a theoretical answer provided in the options. Since we cannot calculate it directly from the given data, we refer to the options for a plausible answer based on standard financial models and the information typically required for such calculations. Given this, the selection of option C as the correct answer is based on the assumption that it is the closest approximation to the cost of retained earnings based on the information typically used for such calculations, despite the direct calculation not being presented due to the lack of specific dividend information.

What Is the Cost of Retained Earnings for Foggy Futures