Assume that you are an intern with the Brayton Company,and you have collected the following data: The yield on the company's outstanding bonds is 7.75%;its tax rate is 40%;the next expected dividend is $0.65 a share;the dividend is expected to grow at a constant rate of 6.00% a year;the price of the stock is $15.00 per share;the flotation cost for selling new shares is F = 10%;and the target capital structure is 45% debt and 55% common equity.What is the firm's WACC,assuming it must issue new stock to finance its capital budget?
A) 6.89%
B) 7.26%
C) 7.64%
D) 8.04%
E) 8.44%

Question

Quizplus · Accepted Answer

First, we need to calculate the cost of equity using the dividend growth model:

Cost of Equity = (Next Dividend / Price) + Growth rate
Cost of Equity = ($0.65 / $15.00) + 6.00%
Cost of Equity = 10.33%

Next, we need to calculate the after-tax cost of debt:
After-tax Cost of Debt = Yield to Maturity * (1 - Tax rate)
After-tax Cost of Debt = 7.75% * (1 - 40%)
After-tax Cost of Debt = 4.65%

Since the company's target capital structure is 45% debt and 55% equity, we can calculate the WACC using the following formula:

WACC = (Weight of Debt * After-tax Cost of Debt) + (Weight of Equity * Cost of Equity)
WACC = (0.45 * 4.65%) + (0.55 * 10.33%)
WACC = 8.04%

Therefore, the firm's WACC is 8.04%. The best choice is D), as it is the closest answer to the calculated WACC.

Assume That You Are an Intern with the Brayton Company,and