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Calculate firm cost of ordinary equity

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Reference no: EM133239424

A company plans to raise new capital for its project in Western Australia. In order to assess the profitability of the proposed expansion the company's CFO has asked you to calculate the weighted average cost of capital (WACC) for the company.

The company currently has an outstanding $1,000 bond issue with a 10% coupon rate that is currently trading on the market with 10 years until maturity for $1,130. The firm has been informed by an investment banker that it will be able to issue bonds of equal risk and credit rating. The ordinary shares has a current price of $20 with an expected dividend (D1) of $1.00 per share. The expected growth rate into the foreseeable future for earnings and dividends per share is 8% per annum. The preference share stock is selling at $60 per share and carries a dividend of $6.00 per share.

The capital structure of the firm is comprised of 50% debts, 5 % preference shares and 45% common shares. The corporate tax rate is 30% and all of its shareholders are Australian citizens for tax purposes.

1. Calculate the firm's cost of debt

2. Calculate the firm's cost of ordinary equity

3. Calculate the firm's cost of preference shares

4. Calculate the firm's weighted average cost of capital (WACC)

5. Provide a definition of Weighted Average Cost of Capital including an explanation (include an example) of why it is a critically important facet of the Capital Budgeting process.

Reference no: EM133239424

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