Wheel Industries is considering a three-year expansion project, Project A. The p

Question

Wheel Industries is considering a three-year expansion project, Project A. The project requires an initial investment of $1.5 million. The project will use the straight-line depreciation method. The project has no salvage value. It is estimated that the project will generate additional revenues of $1.2 million per year before tax and has additional annual costs of $600,000. The Marginal Tax rate is 35%. Wheel has just paid a dividend of $2.50 per share. The dividends are expected to grow at a constant rate of six percent per year forever. If the stock is currently selling for $50 per share with a 10% flotation cost, what is the cost of new equity for the firm?

Explanation / Answer

Answer: Calculation of the cost of new equity for the firm:

Cost of equity Capital = D1/ P0 + g

     D1 = D0 (1 + g)

      = 2.50 (1 + 0.06)

      = 2.65

Cost of equity capital = 2.65/ 50(1-0.10) + 0.06

                             = 0.1188 or 11.89%

Related Questions

Navigate

• Browse (All)
• Browse W
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.