Problem:
JM Corporation has a target capital structure consisting of 20% debt, 20% preferred stock, and 60% common equity. Assume the firm has insufficient retained earnings to fund the equity portion of its capital budget. Its bonds have a 12% coupon, paid semiannually, a current maturity of 20 years, and sell for $1,000. The firm could sell, at par, $100 preferred stock that pays a 12% annual dividend, but flotation costs of 5% would be incurred. The firm's beta is 1.2, the risk-free rate is 10%, and the market risk premium is 5%.
JM is a constant growth firm that just paid a dividend of $2.00, sells for $27.00 per share, and has a growth rate of 8%. The firm's policy is to use a risk premium of 4 percentage points when using the bond-yield-plus-premium method to find r s. Flotation costs on new common stock total 10%, and the firm's marginal tax rate is 40%.
Required:
Question 1: What is JM's component cost of debt?
Question 2: What is JM's cost of preferred stock?
Question 3: What is JM's cost of retained earnings using the CAPM approach?
Question 4: What is the firm's cost of retained earnings using the DCF approach
Question 5: What is the firm's cost of retained earnings using the bond-yield-plus-risk-premium approach?
Question 6: What is JM's WACC, if the firm has insufficient retained earnings to find equity portion of its capital budget?
Note: Provide support for your rationale.