The bonds your company just issued carry a yield to maturity of 9%, and you have preferred stock outstanding which pays a 7% dividend yield. Your company has a tax rate of 33%. The president of your company has just suggested to you that you issue more preferred stock and buy back your bonds. What should you tell her?
a.
Good idea. Since the after-tax cost of debt is lower than the after-tax cost of the preferred, your cost of capital will go down by using more preferred.
b.
Bad idea. Since the after-tax cost of debt is lower than the after-tax cost of the preferred, your cost of capital will go down by using more preferred.
c.
Bad idea. Since the cost of preferred is lower than the cost of the debt, your cost of capital will go down by using more preferred.
d.
Good idea. Since the cost of preferred is lower than the cost of the debt, your cost of capital will go down by using more preferred.
e.
Bad idea. Since the after-tax cost of debt is lower than the after-tax cost of the preferred, your cost of capital will go up by using more preferred.