Finance for Life

712 Words3 Pages
Integrative—WACC, WMCC, and IOS. Cartwell Products has compiled the data shown in the following table for the current costs of its three basic sources of capital—long-term debt, preferred stock, and common stock equity—for various ranges of new financing.

Source of Capital Range of New Financing After Tax Cost

Long-term debt $0 to 320,000 6% $320,000 and above 8%

Preferred stock $0 and above 17%

Common stock equity $0 to $200,000 20% $200,000 and above 24%

The company's capital structure weights used in calculating its weighted average cost of capital are shown in the following table.

Source of Capital Weight

Long-term debt 40%

Preferred Stock 20

Common Stock 40

Total
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Debt. The firm can raise an unlimited amount of debt by selling $1,000 par-value, 8% coupon interest rate, 20-year bonds on which annual interest payments will be made. To sell the issue, an average discount of $30 per bond would have to be given. The firm also must pay flotation costs of $30 per bond.

Preferred Stock. The firm can sell 8% preferred stock at its $95-per-share par value. The cost of issuing and selling the preferred stock is expected to be $5 per share. An unlimited amount of preferred stock can be sold under these terms.

Common Stock. The firm's common stock is currently selling for $90 per share. The firm expects to pay cash dividends of $7 per share next year. The firm's dividends have been growing at an annual rate of 6%, and this is expected to continue into the future. The stock must be underpriced by $7 per share, and flotation costs are expected to amount of $5 per share. The firm can sell an unlimited amount of new common stock under these terms.

Retained Earnings. When measuring this cost, the firm does not concern itself with the tax bracket or brokerage fees of owners. It expects to have available $100,000 of retained earnings in the coming year; once these retained earnings are exhausted, the firm will use new common stock as the form of common stock equity financing.

a. Calculate the specific cost of each source of financing. (Round answers to the nearest .1%.)

Source of Capital
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