Question

22. Sorensen Systems Inc. is expected to pay a $2.50 dividend next year, the dividend is expected to grow at a constant rate 5.5% a year, and the common stock currently sells for $37.50 a share. The yield-to-maturity on its outstanding bonds is 7.50%, and the tax rate is 40%. The target capital structure weights consist of 45% debt and 55% common equity. What is the company's WACC if all the equity is used from retained earnings? A) 9.41% B) 8.72% C) 7.58% D) 9.94% E) 8.80%

Answer 1

correct option is "B"-8.72%

	Cost	weight	Cost *weight
Debt	4.5%	45%	2.025
Equity	12.167%	55%	6.6919
			8.7169   (rounded to 8.72%)

#After tax cost of debt = 7.5(1-.40)= 4.5%

cost of equity =[D1/price]+ g

               = [2.5/37.5]+.055

             = .06667 +.055

            = .12167 or 12.167%