Capital structure
a) The preferred stock of Triple-Play Corporation is currently priced at $21 per share, pays an annual dividend of 3.5% based on a par value of $100. Flotation costs associated with the sale of preferred stock equal $1.25 per share. The company’s marginal tax rate is 35%. Therefore, the cost of preferred stock would be
b) If Company offers preferred stock with a current market price of $18 per share. The preferred stock pays an annual dividend of 4% based on a par value of $100. Flotation costs for preferred stock equals $1.50 per share. The corporate tax rate is 40%. Therefore, the cost of preferred stock would be?
c) GNB Inc. is investing in a major capital budgeting project that will require funding of $16 million. The money will be raised by issuing $2 million of bonds, $4 million of preferred stock, and $10 million of new common stock. The company estimates is after-tax cost of debt to be 7%, its cost of preferred stock to be 9%, the cost of retained earnings to be 14%, and the cost of new common stock to be 17%. What is the weighted average cost of capital for this project?
- d) The LMK Company is planning a $64 million expansion. The expansion is to be financed by selling $25.6 million in new debt and $38.4 million in new common stock. The before-tax required rate of return on debt is 9 percent and the required rate of return on equity is 14 percent. If the company is in the 35 percent tax bracket, what is the firm’s cost of capital?
- e) Given the following capital structure, compute the company’s weighted average cost of capital.
| Type of Capital | Percent of Capital Structure | Before-Tax Component Cost |
| Bonds | 40% | 7.5% |
| Preferred Stock | 5% | 11% |
| Common Stock (Internal Only) | 55% | 15% |
Solve for the company’s marginal tax rate is 40%.
f) Painter Pro has a capital structure that consists of $7 million of debt, $2 million of preferred stock, and $11 million of common equity, based upon current market values. The firm’s yield to maturity on its bonds is 7.4%, and investors require an 8% return on the firm’s preferred and a 14% return on common stock. If the tax rate is 35%, calculate the WACC
g) Princeton Technology has the following capital structure.
Debt……………………………….. 40%
Common equity…………….. 60
The after-tax cost of debt is 6 percent; and the cost of common equity is 13 percent.
- What is the firm’s weighted average cost of capital?
- An outside consultant has suggested that because debt is cheaper than equity, the firm should switch to a capital structure that is 50 percent debt and 50 percent equity. Under this new and more debt-oriented arrangement, the aftertax cost of debt is 7 percent, and the cost of common equity (in the form of retained earnings) is 15 percent. Recalculate the firm’s weighted average cost of capital.
- Which plan is optimal in terms of minimizing the weighted average cost of capital?
