Question

Problem 10-18 WACC and optimal capital budget Adamson Corporation is considering four average-risk projects with the following costs and rates of return: Project Cost Expected Rate of Return $2,000 1 16.00% 2 3,000 15.00 3 5,000 13.75 12.50 4 2,000 The company estimates that it can issue debt at a rate of rd10 % , 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 $32 per share; the next expected dividend, D1, is $3.50; and the dividend is expected to grow at a cónstant rate of 5 % per year. The target capital structure consists of 75 % common stock, 15 % debt, and 10% preferred stock. a. What is the cost of each of the capital components? Round your answers to two decimal places. Do not round your intermediate calculations. Cost of debt % Cost of preferred stock % Cost of retained earnings b. What is Adamson's WACC? Round your answer to two decimal places. Do not round your intermediate calculations. C. Only projects with expected returns that exceed WACC will be accepted. Which projects should Adamson accept? -Select- Project 1 -Select- Project 2 -Select- Project 3 -Select- Project 4

Answer 1

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ke - Microsoft Excel (Product Activation Failed) Add-Ins File Home Insert Page Layout Formulas Data Review View - 2x % Cut Calibri 11 A = = = V General A A Wrap Text Merge & Center - E $ :.: BIU - D Font Insert Delete Format % , Number Conditional Format Formatting as Table Styles Cell Styles Σ AutoSum : A Fill Sort & 2 Clear Filter Editing Find & Select Alignment Cells E Copy Paste Format Painter Clipboard AA52 Y 33 AA AC AD AE AF AG Z ANSA kd = kd = AB 10%(1-0.30) 7.00% 34 kp = D/PO kp = 4/49 8.1633% ke = D1/P0 + 8 ke = 3.5/32 +0.05 ke = 15.9375% ANS B WACC WEIGHT SOURCE COMMON STOCK DEBT PREFERRED STOCK 75% 15% 10% COC (%) 15.9375% 7.00% 8.1633% B*C WEIGHTED COST 11.953% 1.050% 0.816% 49 50 WACC = 13.82% 51 52 K M convexity DGM betaport future INDEX INTL CAP BUD LEASING PV, FV, ANNUITY DIR right clean YIELD bond portfolio RESI el KE CAPM UTILITY, SHARPE, beta ferences: CF670 cap stru WACC BOJ 120% Rea . B * * *0 ENG 20-11-2019

ke - Microsoft Excel (Product Activation Failed) Add-Ins File Home Insert Page Layout Formulas Data Review View - 2x % Cut Calibri 11 A = = = V General A A E Copy Paste Format Painter Clipboard Wrap Text Merge & Center - $ % , :.: Insert Delete Format BIU - D Font Conditional Format Formatting as Table Styles Cell Styles Σ AutoSum : A Fill Sort & 2 Clear Filter Editing Find & Select Alignment Number Cells AA71 Y Z AA AB AC AD AE AF AG ANSC PROJECT WACC EXPECTED RATE OF RETURN 16% 52 53 54 55 56 57 58 59 60 15% 13.75% 12.50% SELECTION 13.82% ACCEPT 13.82% ACCEPT 13.82% REJECT 13.82% REJECT REASON RETURN > WACC RETURN > WACC RETURN <WACC RETURN <WACC 61 62 63 64 65 70 71 HI Rea M convexity DGM betaport future INDEX INTL CAP BUD LEASING PV, FV, ANNUITY DIR right clean YIELD bond portfolio KE CAPM UTILITY, SHARPE, beta ferences: CF670 cap stru WACC RESI el BOJ 120% 0- 0 ELEB * * 90 ENG 20-11-2019