Question

Sauer Milk Inc. wants to determine the minimum cost of capital point for the firm. Assume it is considering the following financial plans:

	Cost (aftertax)			Weights
Plan A
Debt		6.0	%		30	%
Preferred stock		12.0			20
Common equity		16.0			50
Plan B
Debt		6.5	%		40	%
Preferred stock		12.5			20
Common equity		17.0			40
Plan C
Debt		7.0	%		45	%
Preferred stock		20.7			20
Common equity		14.8			35
Plan D
Debt		14.0	%		50	%
Preferred stock		21.2			20
Common equity		16.5			30

a-1. Compute the weighted average cost for four plans. (Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)
  

a-2. Which of the four plans has the lowest weighted average cost of capital?
  

• Plan D

• Plan B

• Plan B

• Plan D

Answer 1

a-1) Plan A Debt preferred stock Equity After tax cost weight Cost *weight 6.00 0.30 1.80 12.00 0.20 2.40 16.00 0.50 8.00 WACC 12.20 6.50 0.40 2.60 Plan B Debt preferred stock Equity 12.50 0.20 2.50 17.00 0.40 6.80 11.90 WACC 7.00 0.45 3.15 Plan C Debt preferred stock Equity 4.14 20.70 0.20 14.80 0.35 WACC 5.18 12.47 Plan D Debt preferred stock Equity 14.0 0.5 21.2 0.2 16.5 0.3 WACC 7.00 4.24 4.95 16.19 |a-2) Plan B has the lowest weighted average cost of capital