Problem:
Durocorp has a target capital structure of 40% debt and 60% equity. Durocorp is planning to invest in a project that will necessitate raising new capital. New debt will be issued at a before-tax yield of 12%, with a coupon rate of 10%. The equity will be provided by internally generated funds so no new outside equity will be issued.
Required:
Question: If the required rate of return on the firm's stock is 18% and its marginal tax rate is 40%, compute the firm's cost of capital.
- 13.20%
- 13.68%
- 15.00%
- 9.36%
Note: Please show how you came up with the solution.