Mullineaux Corporation has a target capital structure of 60% common stock, 5% pr

Question

Mullineaux Corporation has a target capital structure of 60% common stock, 5% preferred stock, and 35% debt. Its cost of equity is 14%, the cost of preferred stock is 6%, and the cost of debt is 8%. The relevant tax rate is 35%.
Part 1) The equation for the WACC= (E/V) x RE + (D/V) x (1-TC) What is Mullineaux’s WACC?
Part2.) The company president has approached you about Mullineaux’s capital structure. He wants to know why the company doesn’t use more preferred stock financing because it costs less than debt. What would you tell the president?

I need help double-checking my homework please help if you can. This is all one problem, there are two parts to the problem but this is one problem. Please also show how you arrived at the answer and everything.

Explanation / Answer

a. Using the equation to calculate the WACC, we find: WACC = .60(.14) + .05(.06) + .35(.08)(1 – .35) = .1052 or 10.52% b. Since interest is tax deductible and dividends are not, we must look at the after-tax cost of debt, which is: .08(1 – .35) = .052 or 5.2% Hence, on an after-tax basis, debt is cheaper than the preferred stock.

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