Zinger Corporation manufactures industrial type sewing machines. Zinger Corp. received a very large order from a few European countries. In order to be able to supply these countries with its products, Zinger will have to expand its facilities. Of the required expansion, Zinger feels it can raise $75 million internally, through retained earnings. The firm's optimum capital structure has been 45% debt, 10% preferred stick and 45% equity. The company will try to maintain this capital structure in financing this expansion plan. Currently Zinger's common stock is traded at a price of $20 per share. Last year's dividend was $1.50 per share. The growth rate is 8%. THe company's preferred stock is selling at $50 and has been yielding 6% in the current market. Flotation cost have been estimated at 8% of common stock and 3% preferred stock. Zinger Corp. has bonds outstanding at 10% but its investment banker has informed that company that interest rates for bonds of equal risk are currently yielding 9%. Zinger's tax rate is 46%.
a) Compute the cost of Kd, Kp, Ke, Kn
b) Calculate the weighted average cost of capital using Ke.
c) How large a capital structure can the firm support with retained earnings financing?
The solution explains how to calculate the component costs of capital and use them to calculate the cost of capital