Haroldson Inc.common stock is selling for $22 per share.The last dividend was $1.20,and dividends are expected to grow at a 6% annual rate.Flotation costs on new stock sales are 5% of the selling price.What is the cost of Haroldson's retained earnings?

Question

Quizplus · Accepted Answer

To calculate the cost of retained earnings, we need to use the Gordon Growth Model formula:

Cost of Retained Earnings = (Next Year's Dividend / Current Stock Price) + Growth Rate

Next Year's Dividend = Current Dividend * (1 + Growth Rate) = $1.20 * (1 + 0.06) = $1.272

Flotation costs on new stock sales are 5%, so the new stock sale price is $22.11 ($22 / (1 - 0.05))

Cost of Retained Earnings = ($1.272 / $22) + 0.06 = 0.116

Therefore, the cost of Haroldson's retained earnings is 11.78%. The closest answer option is C.