Table 9.2

A firm has determined its optimal structure which is composed of the following sources and target market value proportions.

Target Market

Source of Capital Proportions

Longterm debt 60%

Common stock equity 40

Debt: The firm can sell a 15-year, $1,000 par value, 8 percent bond for $1,050. A flotation cost of 2 percent of the face value would be required in addition to the premium of $50.

Common Stock: A firm's common stock is currently selling for $75 per share. The dividend expected to be paid at the end of the coming year is $5. Its dividend payments have been growing at a constant rate for the last five years. Five years ago, the dividend was $3.10. It is expected that to sell, a new common stock issue must be underpriced $2 per share and the firm must pay $1 per share in flotation costs. Additionally, the firm has a marginal tax rate of 40 percent.

The firm's before-tax cost of debt is ________. (See Table 9.2)

A. 7.7 percent

B. 10.6 percent

C. 11.2 percent

D. 12.7 percent