Corporation X needs $1,000,000 and can raise this through debt at an annual rate of 10 percent, or preferred stock at an annual cost of 7 percent. If the corporation has a 40 percent tax rate, the after-tax cost of each is ________.

Question

Quizplus · Accepted Answer

The after-tax cost of debt is calculated as the interest rate (10%) times the principal ($1,000,000) times (1 - tax rate), which equals $60,000 ($1,000,000 * 10% * (1 - 40%)). The cost of preferred stock is not tax-deductible, so it remains at $70,000 ($1,000,000 * 7%).

Corporation X Needs $1,000,000 and Can Raise This Through Debt