11-17· The CFO of Lazy Loungers is evaluating the following independent, indivis

Question

11-17· The CFO of Lazy Loungers is evaluating the following independent, indivisible projects: Project Cost 10,000 5,000 25,000 IRR 21.0% 20.0 16.0 Lazy's weighted average cost of capital (WACC) is 14 percent if the firm does not have to issue new common equity; if new common equity is needed, its WACC is 17 percent. Lazy's capital structure consists of 40 percent debt. If Lazy has no preferred stock and expects to generate $24,000 in retained earnings this year, which project(s) should be purchased?

Explanation / Answer

q-11-3 Preferred par stock $120.00 Annual Dividend 5% $6.00 Price of preferred Stock $80 Floation Cost = $80 - $75 $5 Cost of preferred = Dividend/(Price - Floation cost) Cost of preferred = $6/($80 - $5) 8.00% q-11-2 Annual Semiannual a. Coupon rate = 5.60% 0.028 Nper 12 24 Maturity value $1,000.00 $1,000.00 Current value $918.00 $918.00 Before Tax Cost of debt 6.61% 3.30% b. Coupon rate = 5.60% 0.028 Nper 12 24 Maturity value $1,000.00 $1,000.00 Current value $730.00 $730.00 Before Cost of debt 9.46% 4.70% (calculated in excel using rate function) q-11-9 Market price per Share $50.00 Beta 0.75 Dividend paid per share $8.00 Flotation cost 7% a. Cost of Retained earnings = Dividend/Market Price Cost of Retained earnings = $8/$50 16.00% b. Cost of new Equity = cost of retained earnings+ floation cost Cost of new Equity = 16% + 7% 23.00%

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