Question 18

A firm has determined its optimal capital structure which is composed of 30% of long term debt. 20% of preferred stock and 50% of common stock.

Details of each capital is as follow:

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 underpriced $1 per share in floatation costs. Additionally, the firm's marginal tax rate is 40 percent.

Calculate 1)after-tax cost of debt 2)cost of preferred stock 3)cost of a new issue of common stock 4)cost of retained earnings 5)weighted average cost of capital up to the o point when retained earnings are exhausted