WACC and optimal capital budget Adams Corporation is considering four average wi
ID: 2733111 • Letter: W
Question
WACC and optimal capital budget Adams Corporation is considering four average with the following costs and rates of return: The company estimates that it can issue at a rate of r_d = 11%, and its tax rate is 30%. It can issue preferred stock that pays a constant dividend of $4 per year at $49 per share. Also, its common stock currently sells for $36 per share; the next expected dividend, D_1, is $4.25; and the dividend is expected to grow at a constant rate of 4% per year. The target capital structure consists of 75% common stock, 15% data, and 10% preferred stock. a. What is the cost of each of the capital components? Round your answers to two decimal places. Cost of dept % Cost of preferred stock % Cost of retained earnings % b. What is Adams' WACC? Round your answer to two decimal places. % c. Only projects with expected returns that exceed WACC will be accepted. Which projects should Adams accept? project 1 project 2 project 3 project 4Explanation / Answer
Cost of Debt = Debt rate *(1-t)
= 11*(1-.3)= 7.7%
Cost of Equity can be found by dividend discount model
required return on equity = D1/P +g
4.25/36 + 4% =15.80%
Cost of Prefered stock = 4/49 = 8.16%
Cost of Capital = WACC =
Hence only projects which have greater expected earnings than this would be accepted
Rate if return Weightage Cost f debt 7.70% 15.00% Cost of Equity 15.80% 75.00% Cost of pref shares 8.16% 10.00% 13.82%Related Questions
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