Quantitative Problem: Barton Industries expects that its target capital structur
ID: 2714259 • Letter: Q
Question
Quantitative Problem: Barton Industries expects that its target capital structure for raising funds in the future for its capital budget will consist of 40% debt, 5% preferred stock, and 55% common equity. Note that the firm's marginal tax rate is 40%. Assume that the firm's cost of debt, rd, is 7.5%, the firm's cost of preferred stock, rp, is 7% and the firm's cost of equity is 11.5% for old equity, rs, and 11.93% for new equity, re.
What is the firm's weighted average cost of capital (WACC1) if it uses retained earnings as its source of common equity? Round your answer to 3 decimal places. Do not round intermadiate calculations. %
What is the firm’s weighted average cost of capital (WACC2) if it has to issue new common stock? Round your answer to 3 decimal places. Do not round intermadiate calculations. %
Explanation / Answer
WACC = Wd×Rd×(1-t)+ We×Ke+Wp×Rp
W is weights of respective portfolios
R is return on respective portfolios
Case 1:
= 40%×7.5%×(1-40%)+ 55%×11.5%+5%×7%
= 8.475%
Case 2:
= 40%×7.5%×(1-40%)+ 55%×11.93%+5%×7%
= 8.712%