Problem 11-24

Western Electric Utility Company faces increasing needs for capital. Fortunately it has an A credit rating. The corporate tax rate is 40 percent. Westerns treasurer is trying to determine the corporations current weighted average cost of capital to assess the profitability of capital budgeting projects. Historically, the corporations earnings and dividends per share have increased at about a 8.6 percent annual rate.

Western Electrics common stock is selling at $70 per share, and the company will pay a $7.20 per share dividend (D₁). The companys $108 preferred stock has been yielding 7 percent in the current market. Flotation costs for the company have been estimated by its investment dealer to be $5.00 for preferred stock. The companys optimum capital structure is 45 percent debt, 20 percent preferred stock, and 35 percent common equity in the form of retained earnings. Refer to the table below on bond issues for comparative yields on bonds of equal risks to Western Electric, maturing in 2027. (Round the final answers to 2 decimal places.)

Data on Bond Issues
Issue	Rating		Price	Yield to Maturity
Utilities:
Bell Canada 6.55%, 2029	A (high)		99.56		6.70
TransCanada 6.89%, 2028	A		103.73		6.70
Westcoast Energy 6.75%, 2027	A (low)		100.11		6.87
Industrials:
Loblaw 6.45%, 2028	A (high)		99.81		6.59
GrTAA 6.45, 2027	A		95.98		6.92
Shaw 8.54%, 2027	BB (high)		101.30		8.54

a.	Compute the cost of debt, Kd.

Cost of debt

%

b.	Compute the cost of preferred stock, Kp.

Cost of preferred stock

%

c.	Compute the cost of common equity in the form of retained earnings, Ke.

Cost of common equity

%

d.	Compute the weighted average cost of capital. (Round intermediate calculations to 2 decimal places.)

	Weighted Cost
Debt (Kd)	%
Preferred stock (Kp)
Common equity (Ke)
Weighted average cost of capital (Ka)	%