Ch 10: Assignment - The Cost of Capital
6. Solving for the WACC
The WACC is used as the discount rate to evaluate various capital budgeting projects. However, it is important to realize that the WACC is an appropriate discount rate only for a project of average risk.
Analyze the cost of capital situations of the following company cases, and answer the specific questions that finance professionals need to address.
Consider the case of Turnbull Co.
Turnbull Co. has a target capital structure of 58% debt, 6% preferred stock, and 36% common equity. It has a before-tax cost of debt of 8.2%, and its cost of preferred stock is 9.3%.
If Turbull can raise all of its equity capital from retained eamings, its cost of common equity will be 12.49. However, if it is necessary to raise new common equity, it will carry a cost of 14.2%.
If its current tax rate is 25%, how much higher will Turnbull's weighted average 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? (Note: Round your intermediate calculations to two decimal places.)
O 0.72%
0 0.75%
O 0.78%
0 0.65%
