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CA Intermediate · Financial Management and Strategic Management · Cost of Capital

Meera Ltd's equity share has a current market price of ₹250. The expected dividend next year is ₹15 per share, and dividends are expected to grow at a constant 5% forever. A flotation cost of 4% applies to new equity issues. What is the cost of new equity capital under the dividend growth model?

Cost of new equity is 11.25 percent. Net proceeds per share after 4 percent flotation cost are ₹240. Dividend yield on net proceeds is 15 divided by 240, or 6.25 percent, and adding the 5 percent growth rate gives 11.25 percent.

  1. A11.25%Correct
  2. B11.00%
  3. C10.25%
  4. D12.00%

Explanation

Net proceeds = 250 x 0.96 = 240. Ke = D1/Net proceeds + g = 15/240 + 0.05 = 6.25% + 5% = 11.25%. The 11% option ignores flotation cost (15/250 + 5%). The 10.25% option uses 15/250 incorrectly with growth subtraction errors.

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