Essentials Of Investments
11th Edition
ISBN: 9781260013924
Author: Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher: Mcgraw-hill Education,
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A-Rod Manufacturing Company is trying to calculate its cost of capital for use in making a capital budgeting decision. Mr. Jeter, the vice-president of finance, has given you the following information and has asked you to compute the weighted average cost of capital.
The company currently has outstanding a bond with a 11.4 percent coupon rate and another bond with an 9.0 percent rate. The firm has been informed by its investment banker that bonds of equal risk and credit rating are now selling to yield 12.3 percent. The common stock has a price of $68 and an expected dividend (D1) of $1.88 per share. The historical growth pattern (g) for dividends is as follows:
| $ | 1.43 |
| 1.57 | |
| 1.72 | |
| 1.88 | |
The
a. Compute the average historical growth rate. (Do not round intermediate calculations. Round your answer to the nearest whole percent and use this value as g. Input your answer as a whole percent.)
b. Compute the cost of capital for the individual components in the capital structure. (Use the rounded whole percent computed in part a for g. Do not round any other intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)
c. Calculate the weighted cost of each source of capital and the weighted average cost of capital. (Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)
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An entity can raise funds from multiple sources like debt, common stock, preferred stock, etc. A collection of all these sources is regarded as a capital structure. The costs incurred on each of these alternatives is their respective cost and a proportionate mix of all the costs of capital structure elements is regarded as the weighted average capital cost (WACC). WACC computations consider all the capital structure constituents and their respective proportions.
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