Burnham Brothers Inc.has no retained earnings since it has always paid out all of its earnings as dividends.This same situation is expected to persist in the future.The company uses the CAPM to calculate its cost of equity, and its target capital structure consists of common stock, preferred stock, and debt.Which of the following events would REDUCE its WACC?
A) The flotation costs associated with issuing new common stock increase.
B) The company's beta increases.
C) Expected inflation increases.
D) The flotation costs associated with issuing preferred stock increase.
E) The market risk premium declines.

Question

Quizplus · Accepted Answer

The Weighted Average Cost of Capital (WACC) is influenced by the cost of equity, the cost of debt, and the cost of preferred stock. A decline in the market risk premium would reduce the cost of equity calculated using the CAPM (Capital Asset Pricing Model), which in turn would reduce the WACC, assuming other factors remain constant.