Practice Question $2$

Bootleg Bottling Limited is interested in measuring its overall cost of capital. Current investigation has

gathered the following data. The firm is in the $40\%$ tax bracket.

Debt $-$ The firm can raise debt by selling $$1,000-$par$-$value, $8\%$ coupon interest rate, $20-$year bonds on

which annual interest payments will be made. To sell the issue, an average discount of $$30$ per bond

would have to be given. The firm also must pay flotation costs of $$30$ per bond.

Preferred stock $-$ The firm can sell $8\%$ preferred stock at its $$95-$per$-$share par value. The cost of issuing

and selling the preferred stock is expected to be $$5$ per share. Preferred stock can be sold under these

terms.

Common stock $-$ The firm's common stock is currently selling for $$90$ per share. The firm expects to pay

cash dividends of $$7$ per share next year. The firm's dividends have been growing at an annual rate of

$6\%,$ and this growth is expected to continue into the future. The stock must be underpriced by $$7$ per

share, and flotation costs are expected to amount to $$5$ per share. The firm can sell new common stock

under these terms.

Retained earnings $-$ When measuring this cost, the firm does not concern itself with the tax bracket or

brokerage fees of owners. It expects to have available $$100,000$ of retained earnings in the coming year;

once these retained earnings are exhausted, the firm will use new common stock as the form of

common stock equity financing.

a$.$ Calculate the after$-$tax cost of debt as well as the cost of preferred stock.

b$.$ Calculate the cost of common stock.

c$.$ Calculate the firm's weighted average cost of capital using the capital structure weights shown

in the following table. $($Round answer to the nearest $0\mathrm{.}1\%.)$