Suppose that Tan Lotion's common shares sell for $18 per share, are expected to set their next annual dividend at $1.00 per share, and that all future dividends are expected to grow by 7 percent per year, indefinitely. If Tan Lotion faces a flotation cost of 12% on new equity issues, what will be the flotation-adjusted cost of equity?
A) 6.37%
B) 7.06%
C) 12.56%
D) 13.31%

Question

Quizplus · Accepted Answer

The flotation-adjusted cost of equity can be calculated using the Gordon Growth Model: Cost of Equity = (D1 / (P0 * (1 - Flotation Cost))) + Growth Rate. Here, D1 = $1.00, P0 = $18, Flotation Cost = 12% or 0.12, and Growth Rate = 7% or 0.07. Plugging in the values: Cost of Equity = ($1.00 / ($18 * (1 - 0.12))) + 0.07 = 13.31%.

Suppose That Tan Lotion's Common Shares Sell for $18 Per