Question

ou are evaluating next year investment opportunities and your company cost of capital. You anticipate that if you could minimize your cost, more feasi ble projects could be undertaken. You are also ble are as follows: able to determine your capital budget for next year. Opportunities availa Projects Rate of Return tial Inve 13% 12% 15% 300,000 200.000 400,000 500,000 350,000 14% 11% You believe proporo wyour current capital structure is optimal and even if you would have to raise new funds, this will be maintained: LT Debts 50% Pref. Stock 10% Com. Stock 40% Your company can issue unlimited amount of 9% semi-annual coupon bond with 10 years m aturity period. Bonds will be issued at par but a 2.5% flotation cost will be incurred. You can sell new 9% $100 par value preferred stock for $95 per share. Flotation cost is $10 per share. Forthcoming dividend is expected to be $1.25, dividend expected to grow at a constant rate of 4% and common shares is selling for $11. The company expects $320,000 in retained earnings and cost of issuing new common stock is $1.00. Your tax rate is 40%. Which investment/'s, if any, would you recommend? Use the WMCC/IOS to explain. Hint: Determine the following: Cost of capital components; Breakpoints: WACC at various level of breakpoints; Projects accepted and total amount of capital budget; WACC for the planning period)

Answer 1

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