Bartlett Company's target capital structure is 40% debt, 15% preferred, and 45% common equity.The after-tax cost of debt is 6.00%, the cost of preferred is 7.50%, and the cost of common using reinvested earnings is 12.75%.The firm will not be issuing any new stock.You were hired as a consultant to help determine their cost of capital.What is its WACC?
A) 8.98%
B) 9.26%
C) 9.54%
D) 9.83%
E) 10.12%

Question

Quizplus · Accepted Answer

First, we need to calculate the weights of each component of the target capital structure:

- Debt: 40%
- Preferred: 15%
- Common Equity: 45%

Next, we need to calculate the cost of each component using the given information:

- After-tax cost of debt: 6.00%
- Cost of preferred: 7.50%
- Cost of common using reinvested earnings: 12.75%

Finally, we can use the formula for WACC:

WACC = (w_d x r_d) + (w_p x r_p) + (w_e x r_e)

where:

- w_d = weight of debt
- r_d = cost of debt
- w_p = weight of preferred
- r_p = cost of preferred
- w_e = weight of common equity
- r_e = cost of common equity using reinvested earnings

Plugging in the numbers, we get:

WACC = (0.40 x 0.06) + (0.15 x 0.075) + (0.45 x 0.1275)
WACC = 0.024 +0.01125+0.057375
WACC = 0.092625 or 9.26%

Therefore, the best choice is B with the explanation above.

Bartlett Company's Target Capital Structure Is 40% Debt, 15% Preferred