the accidental petroleum company is trying to determine its weighted average cos

ID: 2665982 • Letter: T

Question

the accidental petroleum company is trying to determine its weighted average cost of capital for use in making a number of investment decisions. the firm's bonds were issued 6 years ago and have 14 years left ntil maturity. they carried an 8% coupon rate, and are currently selling for $962.50.

the firm's preferred stock carried a $4.60 dividend and is currently selling at $42.50 per share. accidental's investment banker has stated the issue costs for new preferred will be 50 cents per share.

the firm has significant retained earnings, but will also need to sell new common stock to finance projects it is now considering. accidental petroleum common stock is expected to pay a $2.50 per share dividend next year, and is expected to maintain an 8% growth rate for the foreseeable future. the stock is currently priced at $50 per share, but new common stock will have flotation costs of 60 cents per share.

calculate the costs of the various component of accidental petroleum's capital (Kd, Kp, Ke, Kn). The firm's tax rate is 34%.

Explanation / Answer

AYTM

8.46%

Cost of Debt (after-tax)

AYTM (1 - tax rate)

.0846 (1 - .34)

.0846 (.66) = 0.558 = 5.58%

Cost of Preferred Stock

10.95%

Cost of Retained Earnings

.05 + .08 = 13.00%

Cost of New Common Stock

.0506 + .08 = 13.06%