e prenchie\'s Fries has preferred stock outstanding that pays a constant dividen

Question

e prenchie's Fries has preferred stock outstanding that pays a constant dividend of $2.00 per hare. The required retu market for Frenchie's preferred st preferred stock is 8% What is the expected price in the rn on this st 20. Goats R Us has a target capital structure of 25 percent debt and 75 percent common equity. The company's before tax cost of debt is 8%, and its marginal tax rate is 40 percent. The curre stock price is $25, the last annual dividend was $2.00, and the dividend is expected to grow at constant rate of 5%. The firm has no preferred stock, what is the firm's cost of common equity? t is the firm's weighted average cost of capital (WACC)?

Explanation / Answer

19) Expected price of preferred stock = Preferred dividend/Required rate of return on preferred stock
= $2/0.08
= $25

20) After tax cost of debt = Before tax cost of debt*(1-Tax rate) = 8*(1-0.40) = 4.8%
Cost of equity = Dividend/Expected price + Growth rate
= $2/$25 + 0.05
=0.13 or 13%

Weighted average cost of capital = Wd*Kd + We*Ke
= 0.25*4.8 + 0.75*13
= 1.2+9.75
= 10.95%

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