Nanosoft is interested in measuring its overall cost of capital. The company is in the 40% tax bracket. Current investigation has gathered the following data:
Debt The company can raise debt by selling R1, 000-par-value, 10% coupon interest rate, 10-year bonds on which annual interest payments will be made. To sell the issue, an average discount of R30 per bond must be given. The company must also pay flotation costs of R20 per bond and
Nanosoft’s cost of debt is 10.8%.
Preferred stock The company can sell 11% (annual dividend) preferred stock at its R100-per-share par value. The cost of issuing and selling the preferred stock is expected to be R4 per share.
Common stock The company’s common stock is currently selling for R80 per share. The company expects to pay cash dividends of R6 per share next year. The company’s dividends have been growing at an annual rate of 6%, and this rate is expected to continue in the future. The stock will have to be underpriced by R4 per share, and flotation costs are expected to amount to R4 per share.
Retained earnings The company expects to have R225, 000 of retained earnings available in the coming year. Once these retained earnings are exhausted, the company will use new common stock as the form of common stock equity financing.

Required:
a. Calculate the individual cost of each source of financing. (Round to the nearest 0.1 %.) (10)
b. Calculate the company’s weighted average cost of capital using the weights shown in the following table, which are based on the company’s target capital structure proportions. (Round to the nearest 0.1 %.) (10)

Source of capital Weight
Long-term debt 40%
Preferred stock 15%
Common stock equity 45%
Total 100%

C. Given the above information on Nanosoft and your computations above, in which, if any, of the investments shown in the table below do you recommend that the company invest?
Explain your reasoning. (10)
Investment opportunity Expected rate of return Initial investment
A 11.2% R100,000
B 9.7 500,000
C 12.9 150,000
D 16.5 200,000
E 11.8 450,000
F 10.1 600,000
G 10.5 300,000

Answer rating: 100% (QA)

a Cost of debt rusing approximation formula I 10 1000 100 Na 1... View the full answer