The Cost of Capital

1. A firm raises capital by selling $20000 worth of debt by selling 20 bonds with flotation
costs equal to 2% of its par. If the debt matures in 10 years and has a coupon interest rate
of 8%, what is the cost of the bond? What component will be consider to calculate
WACC if tax rate is 40%?
2. If you issue 15% preferred stock at a par value of $35 per share and flotation cost $3 per
share. Calculate cost of preferred stock? If flotation cost is 10 % of par then what is the
new cost?
3. Elite com paying dividend steadily for several years. If current stock price is $80 and the
firm plans to pay dividend of $2 with a growth rate of 7% per year, what is the cost of
common equity?
4. From the following table, calculate the cost of retained earnings and the cost of new
common stock,
Firm

Price
per Dividend
Dividend
Underpricing Flotation
share
growth
(Do)
per share
cost
A
$50
8%
$2.25
$3
$1
B
20
4
1
2
2
5. Baby Corporation uses debt, preferred stock and common stock to raise capital. The
proportions of debt 55%; preferred stock 10% and remaining are common stock. If the
cost of debt 10%, preferred stock costs 9% and common stock costs 12%, what is WACC
for Baby Corporation if they have tax bracket of 35%?
6. MD Company asked you to calculate the WACC for its capital. You are given the
following information, 50 % will be finance by stock and 20% by preferred stock and
remaining by bond.
Debt: the firm can sell for $950 a 8 year bond paying annual interest at a 10% coupon
rate. A flotation cost of 3% of the par and required in addition to the discount of $20
dollar per bond. Corporate tax is 40 %.
Preferred stock: 10 % preferred stock having a par value $100 can be sold today at $70.
An additional fee for $2 per share must be paid to the underwriters.
Common stock: currently selling at $60 per share and expected EPS per share by next
year is $8 whereby the dividend payout ratio is 80%. To attract buyers it has to underprice
by $5 and flotation cost $3 for each share. CFO, believe that the growth rate of the
company will be continue at 7% forever.
(a) Calculate the specific cost for each source of financing
(b) If earnings available to common shareholders are expected to be $7 million, what is
the breakpoint with exhaustion of retained earnings?
(c) Calculate WACC from zero to the breakpoint calculated in part b.
(d) Determine the cost just beyond the break point calculated in part b.