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proposed sale of stock equals the sale price minus the flotation costs (php87 php5
= Php82). Substituting the annual dividend, D p, of php8.7 and the net proceeds, N p,
ofphp82 into equation gives the cost of preferred stock of 10.6%.
Computation:
Computation:
same
*The cost of retained earnings is the same as getting the common stock equity by
the two techniques discussed previously. Thus, r r = 13%.
Common Stock Financing #2: Thru Cost of New Issues Of Common Stock
The cost of New issues of common stock, r n, is determined by
calculating the cost of common stock, net of underpricing and associated
flotation costs. Normally, For a new common stock to sell, it has to be underpriced
which means that it is sold at below its current market price, P 0.
Reasons why common stocks are normally underpriced:
Where:
rn = Cost of new issues of common stock
D1= per-share dividend expected at the end of year 1
Nn= net proceeds less underpricing and floatation costs.
g=constant rate of growth in dividends
Example: In the constant-growth valuation example of Gingerbread
Corporation, we found out that the cost of common equity to be 13%, using
the following values:an expected amount of dividend of Php4; a current
market price of Php50; and an expected growth rate of dividend of 5%. To
determine its cost of new common stock, the firm estimated that on average
new shares can be sold for Php47. The Php3-per-share underpricing is due to
competitive nature of the market. The issuing and selling price woul be
Php2.50 per share. What is the cost of new issue common stock?
Solution:
The net proceeds from
sale of new common stock will
be less that the current market
price. There, the cost of new
issues will always be greater
than the cost of existing issues
which is equal to the cost of
retained earnings.
The cost of new common stock
is normally greater thatn any
other long-term financing cost.
Gingerbread Corporations cost of new common stock is therefore 14%. This
is the value to be used in subsequent calculations of the firms overall cost of
capital.
Reported by:
Patsy Cline N. Ganiban
BSA4