A firm has determined its optimal capital structure, which is composed of the following sources and target
Question:
A firm has determined its optimal capital structure, which is composed of the following sources and target market value proportion:
Source of Capital | Target Market Proportions |
Long-term debt | 20% |
Preferred stock | 10% |
Common stock equity | 70% |
Debt: The firm can sell a 12-year, $1,000 par value, 7 percent bond for $960. A flotation cost of 2 percent of the face value would be required in addition to the discount of $40.
Preferred Stock: The firm has determined it can issue preferred stock at $75 per share par value. The stock will pay a $10 annual dividend. The cost of issuing and selling the stock is $3 per share.
Common Stock: A firm's common stock is currently selling for $18 per share. The dividend expected to be paid at the end of the coming year is $1.74. Its dividend payments have been growing at a constant rate for the last four years. Four years ago, the dividend was $1.50. It is expected that to sell, a new common stock issue must be under priced by $0.50 per share in flotation costs. Also note that the firm has exhausted all retained earnings.
The firm's marginal tax rate is 40 percent.
1) What is the firm's after-tax cost of debt?
2) What is the firm's cost of preferred stock?
3) What is the firm's cost of a new issue of common stock?
4) What is the weighted average cost of capital?
Corporate Finance A Focused Approach
ISBN: 978-1439078082
4th Edition
Authors: Michael C. Ehrhardt , Eugene F. Brigham