Consider the following information for a company.
Common Stock Price $53.25 -
Preferred Stock Par Price $50 -
Preferred Dividend $3.5 -
Debt Rating BB+
Owners Equity 25%
Preferred Stock Flotation Cost 2.0%
The Preferred Stock is issued at Par
Calculate the component cost of this newly issued preferred stock. (Note that for existing preferred stock, flotation costs may be ignored.)
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A. B. C. D. E. F. G.B
The component cost of preferred stock is the dividend divided by issue price minus floatation cost. In this case the component cost of preferred stock = $3.50 / (50
- 1) = 7.14%.
To calculate the component cost of the newly issued preferred stock, we need to consider the dividend payment and the flotation cost.
The formula for the cost of preferred stock is as follows:
Cost of Preferred Stock = Preferred Dividend / Net Proceeds from Preferred Stock Issuance
First, let's calculate the net proceeds from the preferred stock issuance:
Net Proceeds = Par Price - Flotation Cost Net Proceeds = $50 - (2.0% * $50) Net Proceeds = $50 - $1 Net Proceeds = $49
Next, we can calculate the cost of preferred stock using the formula:
Cost of Preferred Stock = Preferred Dividend / Net Proceeds from Preferred Stock Issuance Cost of Preferred Stock = $3.5 / $49
Now, let's calculate the cost of preferred stock:
Cost of Preferred Stock = $3.5 / $49 ≈ 0.0714
To express the cost of preferred stock as a percentage, we multiply by 100:
Cost of Preferred Stock = 0.0714 * 100 ≈ 7.14%
Therefore, the component cost of the newly issued preferred stock is approximately 7.14%. Thus, the correct answer is B. 7.14%.