Question

Yamin Co has a target capital structure of 45% debt, 4% preferred stock and 51% common equity. It has before tax cost of debt 11.1% and its cost of preferred stock is 12.2%. if Yasmin can raise all of its equity from retained earnings, its cost of common equity will be 14.7%. However, if it is necessary to raise new common equity, it will carry a cost of 16.8%. a. If it current tax rate is 40% how much higher will Yasmin weighted cost of capital (WACC) be if it has to raise additional common equity capital by issuing new common stock instead of raising the funds through retained earnings? b. Yasmin is considering a project that requires an initial investment of $1,708,000. The firm will raise the $1,708,000 in capital by issuing $750,000 of debt at a before tax cost of 11.1%, $78,000 of preferred stock at a cost of 12.2%, and $880,000 of equity at a cost of 14.7%. The firm faces a tax rate of 40% . What will be the WACC for this project?

Answer 1

	Amount	weight	cost	weight*cost
equity	51.00	0.5100	16.8000%	0.0857
debt	45.00	0.4500	6.6600%	0.0300
preferred shares	4.00	0.0400	12.2000%	0.0049

WACC = 12.05%

	Amount	weight	cost	weight*cost
equity	880,000.00	0.5152	14.7000%	0.0757
debt	750,000.00	0.4391	6.6600%	0.0292
preferred shares	78,000.00	0.0457	12.2000%	0.0056

WACC = 11.06%