Question

DRK, Inc., has just sold 100,000 shares in an initial public offering. The underwriter’s explicit fees were $60,000. The offering price for the shares was $40, but immediately upon issue, the share price jumped to $44. a. What is the total cost to DRK of the equity issue? b. Is the entire cost of the underwriting a source of profit to the underwriters? multiple choice Yes No

Answer 1

Answer: a. $460,000 ; b. No

Step-by-step explanation:

a. What is the total cost to DRK of the equity issue?

First, we calculate the implicit cost per share which will be:

= $44 - $40 = $4.

Therefore, the total implicit cost will be:

= $4 × 100,000

= $400,000

Therefore, total cost to DRK of the equity issue will be:

= Implicit cost + Explicit cost

= $400,000 + $60,000

= $460,000

b. Is the entire cost of the underwriting a source of profit to the underwriters?

No. The entire cost of the underwriting would not be a source of profit to the underwriters. This is because the cost of underpricing isn't included.