plus a capital gain, 9, for a total expected return.In Investors expect to receive a dividend yield, equlibrium, this expected return is also equal to the required return. It's easy to calculate the dividend yield; but because stock prices fluctuate, the yield varies from day to day, which leads to fluctuations in the DCF cost of equity. Also, it is difficult to determine the proper growth especially if past growth rates are not expected to continue in the future. However, we can use growth rates as projected by security analysts, who regularly forecast growth rates of earnings and dividends Which method should be used to estimate rs?I management has confidence in one method, it would probably use that method's estimate. Otherwise, it might use some weighted average of the three methods. Judgment is important and comes into play here, as is true for most decisions in finance. Quantitative Problem: Barton Industries estimates its cost of common equity by using three approaches: the CAPM, the bond-yield-plus-risk-premium approach and the DCF model. Barton expects next year's annual dividend, D1, to be $2.00 and it expects dividends to grow at a constant rate g 4.6%. The firm's current common stock price. Po, is $27.00. The current risk-free rate, n,,-4,7%; the market risk premium, RPM,-6%, and the firm's stock has a current beta, b.-12. Assume that the firm's cost of debt, ra is 7.95%. The firm uses a 4% risk premium when arriving at a ballpark estimate of its cost of equity using the bond-yield- plus-risk-premium approach. What is the firm's cost of equity using each of these three approaches? Round your answers to 2 decimal places. CAPM cost of equity Bond yield plus risk premium: DCF cost of equity: What is your best estimate of the firm's cost of equity? The best estimate is the average of the three approaches 6. 6: The Cost of Capital: Weighted Average Cost of Capital The Cost of Capital: Weighted Average Cost of Capital The firm's target capital structure is the mix of debt, preferred stock, and common equity the firm plans to raise funds for its future projects. The target proportions of debt, preferred stock, and common equity, along with the cost of these components, are used to calculate the firm's weighted average cost of capital (WACC).I the firm will not have to issue new common stock, then the cost of retained earnings is used in the firm's WACC calculation. However, if the firm will have to issue new common stock, the cost of new common stock should be used in the firm's WACC calculation. Quantitative Problem: Barton Industries expects that its target capital structure for raising funds in the future for its capital budget will consist of 40% debt, 5% preferred stock, and 55% common equity. Note that the firm's marginal tax rate is 40%. Assume that the firm's cost of debt, rd, is 7.8%, the firm's cost of preferred stock, rp, is 7.3% and the firm's cost of equity is 11.8% for old equity, rs and 12.52% for new equity, re what is the firm's weighted average cost of capital (WACC1) if it uses retained earnings as its source of common equity? Round your answer to 3 decimal places. Do not round intermediate calculations. What is the firm's weighted average cost of capital (WACC2) if it has to issue new common stock? Round your answer to 3 decimal places. Do not round intermediate calculations The Cost of Capital: Cost of New Common Stock If a firm plans to issue new stock, flotation costs (investment bankers' fees) should not be ignored. There are two approaches to use to account for flotation costs The first approach is to add the sum of flotation costs for the debt, preferred, and common stock and add them to the initial investment cost. Because the investment cost is increased, the project's expected return is reduced so it may not meet the firm's hurdle rate for acceptance of the project. The second approach involves adjusting the cost of common equity as follows: The difference between the flotation-adjusted cost of equity and the cost of equity calculated without the flotation adjustment represents the flotation cost adjustment. Quantitative Problem: Barton Industries expects next year's annual dividend, D. to be $2.30 and it expects dividends to grow at a constant rate 9-5%. The firm's current common stock price, Po, is $22.50, ir it needs to issue new common stock, the firm will encounter a s% notation cost, F. Assume that thecost or equity calculated without the flotation adjustment is 12% and the cost of old common equity is is%, what is the notation cost adjustment that must be added to its cost of retained earnings? Round your answer to 2 decimal places. Do not round intermediate calculations. What is the cost of new common equity considering the estimate made from the three estimation methodologies? Round your answer to 2 decimal places. Do not round intermediate calculations