Company B: Cost of Retained earnings, cost of debt, current WACC
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Company B estimates that it can issue debt at a before-tax cost of 12%, and its tax rate is 35%. The company can also issue preferred stock at $30 per share, which pays a constant dividend of $5 annually. Floatation costs on the preferred are $1 per share.
Net income is estimated to be $200,000, and the firm plans to maintain its policy of paying out 30% as dividends. The company's stock currently sells for $36 per share. The next dividend is expected to be $2.35, which is $.15 higher than the most recent dividend. Furthermore, these dividends are expected to continue to grow at the same rate. Float costs on newly issued common stock are $3 per share. The company's balance sheet is financed with optimal proportions of debt and equity and is as follows:
PP&E $250,000 Debt $250,000
Cash $100,000 Preferred Stock $ ?
Inventories $300,000 Common Equity $300,000
Total Assets $650,000 Total Liab. $ ?
1. What is the cost of retained earnings? Should be expressed in a %age.
2. What is the relevant cost of debt (%age)? Should be expressed in a %age.
3. What is Company B's current WACC? Should be expressed in a %age.
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The solution displays all the formulas and calculations to arrive at the answers to the problems.
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PP&E $250,000 Debt $250,000
Cash $100,000 Preferred Stock $100,000
Inventories $300,000 Common Equity $300,000
Total Assets $650,000 Total Liab.+Equity $ 650,000
1. ...
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