PLEASE SOLVE Sorensen Systems Inc is expected to pay a $2.50 dividend at year en

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PLEASE SOLVE
Sorensen Systems Inc is expected to pay a $2.50 dividend at year end (D1=$2.50), the dividend is expected to grow at a constant rate of 5.50% a year, and the common stock currently sells for $52.50 a share. The before tax cost of debt is 7.50% and the tax rate is 40%. The target capital structure consists of 45% debt and 55% common equity. What is the company's WACC if all equity used is from retained earnings?
Also, if the company does not have any retained earnings and must raise all the equity from new common stock, where F, the flotation percentage is 10%, calculate the new WACC due to this higher cost of equity. Why does the new equity cost more than retained earnings? PLEASE SOLVE
Sorensen Systems Inc is expected to pay a $2.50 dividend at year end (D1=$2.50), the dividend is expected to grow at a constant rate of 5.50% a year, and the common stock currently sells for $52.50 a share. The before tax cost of debt is 7.50% and the tax rate is 40%. The target capital structure consists of 45% debt and 55% common equity. What is the company's WACC if all equity used is from retained earnings?
Also, if the company does not have any retained earnings and must raise all the equity from new common stock, where F, the flotation percentage is 10%, calculate the new WACC due to this higher cost of equity. Why does the new equity cost more than retained earnings?
Sorensen Systems Inc is expected to pay a $2.50 dividend at year end (D1=$2.50), the dividend is expected to grow at a constant rate of 5.50% a year, and the common stock currently sells for $52.50 a share. The before tax cost of debt is 7.50% and the tax rate is 40%. The target capital structure consists of 45% debt and 55% common equity. What is the company's WACC if all equity used is from retained earnings?
Also, if the company does not have any retained earnings and must raise all the equity from new common stock, where F, the flotation percentage is 10%, calculate the new WACC due to this higher cost of equity. Why does the new equity cost more than retained earnings?

Explanation / Answer

Calculating the Weighted average cost of capital:
To calculate the WACC, we need to find out the cost of equity since it is not given.
Calculating the cost of equity using Dividend growth model:
Cost of equity (Ke) = (D1 / P0) + g
= ($2.50 / $52.50) + 0.055
= 0.0476 + 0.055
= 0.1026 or 10.26%
Also given that, the pre-tax cost of debt is 7.50%
Calculating the after-tax cost of debt:
After-tax cost of debt = Pre-tax cost of debt (1 - Tax rate)
= 0.075 (1 - 0.40)
= 0.075 (0.60)
= 0.045 or 4.5%
The formula for calculating WACC is
WACC = Wd * Rd + We * Re
Where Wd is the weight of debt
We is the weight of equity
Rd is the cost of debt
Re is the cost of equity
Substituting the values in the above equation, we get
WACC = 0.45 * 0.045 + 0.55 * 0.1026
= 0.02025 + 0.05643
= 0.07668 or 7.68%
Therefore, the weighted average cost of capital is 7.7%

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