Chapter 10, Problem 18P

WACC AND OPTIMAL CAPITAL BUDGET Adamson Corporation is considering four average-risk projects with the following costs and rates of return:

Project	Cost	Expected Kate of Return
1	$2,000	16.00%
2	3,000	15.00
3	5,000	13.75
4	2,000	12.30

The company estimates that it can issue debt at a rate of r_d = 10%, and its tax rate is 30%. It can issue preferred stock that pays a constant dividend of $5.00 per year at $50.00 per share. Also, its common stock currently sells for $38.00 per share; the next expected dividend, D₁, is $4.25, and the dividend is expected to grow at a constant rate of 5% per year. The target capital structure consists of 75% common stock, 15% debt, and 10% preferred stock.

1. a. What is the cost of each of the capital components?
2. b. What is Adamson's WACC?
3. c. Only projects with expected returns that exceed WACC will be accepted. Which projects should Adamson accept?