Question

value öl de debt now? a. Calculating WACC (LO3) Peacock Corporation has a target capital s debt. Its cost of 70 percent common stock, 5 percent preferred stock, and 25 percen 11 percent, the cost of preferred stock is 5 percent, and the cost of debt 7 percent. The relevant tax rate is 35 percent. a. What is Peacock's WACC? b. The company president has approached you about Peacock's capital structure. He wants to know why the company doesn't use more preferred stock financing be- cause it costs less than debt. What would you tell the president? uuufaturing has a target debt/equity ratio

Answer 1

a) Weighted average cost of capital (WACC) = [(S/(S+B+P))*Rs + (B/(S+B+P))*Rb(1-tc)+ (P/(S+B+P))*Rp]

S = equity, B = debt, P = preffered stock, Rs = Cost of equity (11%), Rb = cost of debt (7%), Rp = cost of preffered stock (5%)

tc = corporations tax rate (35%)

WACC = [ .70*.11 + .25*.07*(1-.35) + .05*.05]

WACC = .090875

WACC = 9.0875%

WACC = 9.09%

b) The company uses debt instead of preffered stock because the interest on debt can be deducted on the companys tax return lowering the actual cost of

debt for the company.