a$)$ Lancaster Engineering Inc $($LEI$)$ has the following capital structure, which it considers to be optimal:

Debt

Preferred stock

Common equity

$20\%$

$20\%$

$60\%$

$100\%$

LEI's expected net income this year is K$34,285\mathrm{.}72$; its established dividend payout ratio is $30\%$; its tax rate is $40\%$; and investors expect future earnings and dividends to grow at a constant rate of $9\%$ LEI paid a dividend of K$3\mathrm{.}60$ per share last year, and its stock currently sells for K$54\mathrm{.}00$ per share. LEI

can obtain new capital in the following ways: Preferred: New preferred stock with a dividend of K$11\mathrm{.}00$ can be sold to the public at a price of K$95\mathrm{.}00$ per share.

Debt: Debt can be sold at an interest rate of $10\%$

a$)$ i$.$ Determine the cost of each capital component.

ii$.$ Calculate the WACC

$(4$ marks$)$

$(3$ marks$)$

b$)$ Percy motors has a target capital structure of $40\%$ debt and $60\%$ common equity, with no preferred stock. The yield to maturity on the company's outstanding bond is $9\%,$ and its tax rate is $40\%.$ Percy's CFO estimates that the company's WACC is $9\mathrm{.}96\%.$ What is Percy's cost of common equity?

$(4$marks$)$

c$)$ Midwest Electric Company $($MEC$)$ uses only debt and common equity. It can borrow unlimited amounts at interest rate of ra$..10\%$ as long as it finances at its target capital structure, which calls for $45\%$ debt and $55\%$ common equity. Its last dividend was $$2,$ its expected constant growth rate is $4\%.$ and its common stock sells for $$22.$ MEC's tax rate is $40\%.$ Two projects are available: project A has a rate of return of $13\%,$ while project B$\text{'}$s retum is $10\%.$ These two projects are equally risky and about

as risky as the firm's existing assets. i$.$ What is its cost of common equity?

$(3$ marks$)$

ii$.$ What is the WACC

$(3$ marks$)$

iii. Which project should Midwest accept and why?

$(3$ marks$)$

d$)$ Explain why the cost of Retained Earnings is the same as the cost of common stock. $(5$ marks$)$