Myers Corporation's stock currently trades at $40 a share. Investors estimate that the year-end dividend will be $2.00 a share and that its dividend will grow at 5% a year (i. e., D1 = $2.00 and g = 5%). The company needs to issue new stock in order to fund its upcoming projects, and investment bankers estimate that the floatation cost will be 4%. What is Myers' cost of new external equity?

a) 10.2%

b) 12.0%

c) 9.6%

d) 11.3%

e) 8.5%

Answer: 10.2%

Explanation:

The formula to solve this question will be: Re = D1/P0 (1 - float) + g

where,

D1 = $2.00

P0 = $40

Float = 4% = 4/100 = 0.04

g = 5% = 5/100 = 0.05

We will then solve Myers' cost of new external equity by slotting the values into the formula written. This will now be:

Re = D1/P0 (1 - float) + g

= 2/40 (1 - 0.04) + 0.05

= 2 / (40 * 0.96) + 0.05

= 2/38.4 + 0.05

= 0.052 + 0.05

= 0.1020

= 10.2%

Myers' cost of new external equity will be 10.2%