Which of the following differentiates the cost of retained earnings from the cost of newly-issued common stock?
A) The cost of the pre-emptive rights held by existing shareholders.
B) The greater marginal tax rate faced by the now-larger firm.
C) The flotation costs incurred when issuing new securities.
D) The larger dividends paid to the new common stockholders.

Question

Quizplus · Accepted Answer

The flotation costs incurred when issuing new securities differentiate the cost of retained earnings from the cost of newly-issued common stock. Retained earnings are already within the company and do not incur any additional costs associated with issuing new securities. However, new common stock issuance incurs flotation costs, which include the costs of underwriting, legal, and accounting services. These costs increase the cost of new equity issuance compared to the cost of retained earnings. The other options (A, B, and D) do not differentiate the cost of retained earnings from the cost of newly-issued common stock.

Which of the Following Differentiates the Cost of Retained Earnings