Question

# A-Rod Manufacturing Company is trying to calculate its cost of capital for use in making a capital budgeting

decision. Mr. Jeter, the vice-president of finance, has given you the following information and has asked you to compute the weighted average cost of capital.

The company currently has outstanding a bond with a 9.9 percent coupon rate and another bond with an 7.5 percent rate. The firm has been informed by its investment banker that bonds of equal risk and credit rating are now selling to yield 10.8 percent. The common stock has a price of $53 and an expected dividend (*D*_{1}) of $1.73 per share. The historical growth pattern (*g*) for dividends is as follows:

$1.28 1.42 1.57 1.73

The preferred stock is selling at $73 per share and pays a dividend of $6.90 per share. The corporate tax rate is 30 percent. The flotation cost is 2.0 percent of the selling price for preferred stock. The optimum capital structure for the firm is 30 percent debt, 10 percent preferred stock, and 60 percent common equity in the form of retained earnings.

**a. **Compute the average historical growth rate. **(Do not round intermediate calculations. Round your answer to the nearest whole percent and use this value as g. Input your answer as a whole percent.)**

Growth Rate ___ %

**b. **Compute the cost of capital for the individual components in the capital structure. **(Use the rounded whole percent computed in part a for g. Do not round any other intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)**

Weighted Cost

Debt _________ %

Preferred Stock ___________

Common Equity __________

**c. **Calculate the weighted cost of each source of capital and the weighted average cost of capital. **(Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)**

Weighted Cost

Debt _________ %

Preferred Stock ___________

Common Equity __________

Weighted Average Cost of Capital _______ %

#### Top Answer

Cost of debt = Yield (1 - T) = 10.8% (1 - .30) = 10.8% (0.70) = 7.56% Cost of preferred stock = Dividend/ (Current price -... View the full answer

#### Sign up to view the full answer

#### Other Answers

Historical growth rate is 10%. b. The cost of equity is... View the full answer