Question

Denver Interiors has 60,000 shares of common stock outstanding at a price per share of $46. The firm also has 20,000 shares of preferred stock outstanding at a price per share of $55. There are 1,500 outstanding bonds with a face value of $1,000 and a price quote of 99.4. What is the capital structure weight of the preferred stock?

18.87 percent

21.38 percent

21.09 percent

20.56 percent

3.

Meiston Press has a debt-equity ratio of 1.40. The pre-tax cost of debt is 8.80 percent and the cost of equity is 13.7 percent. What is the firm’s weighted average cost of capital (WACC) if the tax rate is 34 percent?

11.13 percent

9.88 percent

9.10 percent

10.25 percent

Answer 1

Answer 2

SOLUTION  

Denver Interiors :

Equity = 60000 * 46 = 2760000 ($)

PS = 20000 * 55 = 1100000 ($)

Debt = 1500 * 99.4 / 100 * 1000 = 1491000 ($)

Total capital = 2760000 + 1100000 + 1491000 = 5351000 ($)

So, 

Weight of PS = 1100000 / 5351000 = 0.20557 = 0.2056 

= 20.56%  : 4th Option (ANSWER).

3.

D/E = 1.40 

=> 1 + D/E = 1 + 1.40 = 2.40

=> (D + E) / E = 2.40 

=> 1/ ER = 2.40 

=> ER = 1/2.40 = weight of equity = wE = 0.4167 

=> DR = 1 - ER = weight of debt = wD = 1 - 0.4167 = 0.5833 

Given : rE = cost of equity = 13.7% ; rD actual = cost of debt = 8.80 % and T = 34%

=> Effective rD = actual * (1 - T) = 8.80 * (1 - 0.34) = 5.808 %

WACC 

= wE * rE + wD * rD effective 

= 0.4167 * 13.7 + 0.5833 * 5.808

= 9.10 % : 3rd Option  (ANSWER)