HBM, Inc. has the following capital structures: Assets $400,000 Debt $140,000 Pr

Question

HBM, Inc. has the following capital structures:

Assets                $400,000                Debt                      $140,000

                                                          Preferred Stock    $20,000

                                                          Common Stock     $240,000

The commpn stock is currently selling fro $15 a share, pays a cash dividend of $0.75 per share and is growing annually at 6%. the preferred stock pays a $9 cash dividend and currently sells for $91 a share. The debt pays interest of 8.5% annually, and the firm is in the 30% marginal tax bracket.

A.) What is the after-tax cost of debt?

B.) What is the cost of preferred stock?

C.) What is the cost of common stock?

D.) What is the firm's weighted-average cost of capital?

Please show all work and expalin in detail. Thank you so much for your help:-)

Explanation / Answer

a. After-tax cost of debt:

8.5%(1 - tax rate) = 8.5(1 - .30) = 5.95%

b. Cost of preferred stock:

Dividend/Price of the stock = $9/$91 = 9.9%

c. Cost of the common stock:

Dividend(1 + g)/Price of the stock + growth rate =

$0.75(1 + .06)/$15 + 6% = 11.3%

(This answer assumes the current $0.75 dividend grows by 6 percent during the year.)

d. The cost of capital (k) is a weighted average:

k = (weight)(cost of debt) + (weight)(cost of preferred) +

weight(cost of common stock)

= (.35)(5.95%) + (.05)(9.9%) + (.60)(11.3%) = 9.3575%

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