Question

Assertion (1): Higher the flotation cost, less attractive the source.

Reason (R): The choice between the payment of dividend and retaining the earnings is, to some extent, affected by the difference in the tax treatment of dividends and capital gains.

Options

• Both (1) and (R) are true, and (R) is the correct explanation of (1).

• Both (1) and (R) are true, but (R) is not the correct explanation of (1).

• (1) is true, but (R) is false.

• (1) is false, but (R) is true.

Answer 1

Both (1) and (R) are true, but (R) is not the correct explanation of (1).

Explanation - 

If the cost of floating is high, it will be more expensive for the firm to raise capital since the corporation will end up paying much more money than it would if the cost of floatation was lower.