Reference no: EM132543786

Assume the following particulars relating to Guma Company

• The company capital structure at market value comprises bond $10,000; preferred stock $15,000; common stock $55,000; and retained earnings of $20,000.
• The firm's preferred stock currently sells for $80 and pays a dividend of $9 per share. The preferred stock has no stated liquidation date.
• Guma's common stock currently sells for $50 per share, at a floatation cost of $10. The firm recently paid a dividend of $4 per share on its common stock, and investors expect the dividend to grow indefinitely at a constant rate of 8% per year.
• The firm's before tax cost of debt is 10%, the tax rate is 40%

Required:

Question 1: Calculate the firm's:

a) Cost of preferred stock

b) Cost of common stock

c) Cost of retained earnings

d) Cost of debt

e) Weighted average cost of capital

Question 2: ABC company is considering an investment project. The project's estimated initial investment is $60,000, it is also estimated to produce net annual cash inflow of $25,000 in each of the five years of the project's life. ABC accepts projects if they pay the initial investment within 3 years. If the required rate of return is 12%, evaluate the project's desirability using:

a) Payback period

b) The net present value method

c) The profitability index method