Company X is considering changing its capital structure in light of the tough bu

Question

Company X is considering changing its capital structure in light of the tough business environment. Currently, Company Xs total capital consists of:

$950 million in debt

$20 million in leased assets

$500 million of preferred stock

$900 million in common stock

$750 million in retained earnings

The debt coupon is 8% and tax rate is 40%, while the current preferred share price is $96.20 and the dividend per share is $9. The company's common stock is trading at $25.50, its dividend payout this year is $1.15, and the growth rate of the dividend is 8.5%. Leases are at an average cost of 8%. Find the weighted average cost of capital given the data above.

If Company X wants to change its capital structure (i.e., lower its WACC), what should it do? Show your calculations in detail and explain your reasoning.

Explanation / Answer

To lower cost of capital company must substitute expensive capital like common stock with cheaper capital like debt,
Explanation-
Suppose if debt is increased by $500 mn and common stock is reduced by $ 500mn, the WACC reduces as shown below.

Weight(Wi) Cost(ki) Wi*ki Debt 0.3044872 4.80% 1.46% Lease 0.0064103 4.80% 0.03% Preferred Stock 0.1602564 9.36% 1.50% Common Stock 0.5288462 13.01% 6.88% WACC= 9.87%

Related Questions

Navigate

• Browse (All)
• Browse C
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.