The Argos Corp is planning to raise $20 million in capital to finance the expansion of their manufacturing plant. The break-up is as follows: 6 million in debt, 4 million in preferred stock and 10 million in common stock.
a. They plan to issue 10 years bonds, paying 10% coupon annually, and expect to receive $1031.40 per $1000 face value. Ignore floatation costs.
b. They plan to issue perpetual preferred stocks and expect to receive $73.62 per face value of $100 paying 12% preferred dividends. Ignore floatation costs.
c. The plan to issue common stock and expect to pay $2.40 in dividends next year (d1) with a forecasted growth rate of 7%. The current market price of the stock is $18.36.
What is the weighted average cost of capital (WACC) if the marginal tax rate is 30%?
A. Following up on Question 1, assume you would like to have the WACC equal to 14.75%. They believe they can change the dividend rate paid on their common stock without affecting the price of $18.36. What should be the approximate dividend payment in order for Argos to have WACC=14.75%
B. Following up on Question 1, assume the NPV of a manufacturing plant expansion has been estimated at $500,000 using WACC estimated in Question 1. However, the analysis was performed without taking into consideration floatation costs. The floatation costs for issuing debt, preferred stock and common stock are 5%, 3% and 7%, respectively. Should the projected be accepted if floatation costs are added to the $20 million? Why or why not?
C. Explain to Grandma how WACC is used in capital budgeting analysis and explain the problem of incorrect rejections and acceptances.