The cost of common equity is based on the rate of return that investors require on the company's common stock. New common equity is raised in two ways: $(1)$ by retaining some of the current year's earnings and $(2)$ by issuing new common stock. Equity raised by issuing stock has a$($n$)$ cost$,$ re$,$ than equity raised from retained earnings, rs$,$ due to flotation costs required to sell new common stock. Some argue that retained earnings should be "free" because they represent money that is left over after dividends are paid. While it is true that no direct costs are associated with retained earnings, this capital still has a cost, a$($n$)$ cost$.$ The firm's after$-$tax earnings belong to its stockholders, and these earnings serve to compensate them for the use of their capital. The earnings can either be paid out in the form of dividends to