Question

A firm is considering a project and plan to obtain a target capital structure with $64,519 of debt at a before-tax cost of 9.6%, $17,673 of preferred stock at a cost of 10.7% and $70,938 of equity at a cost of 13.5%. The firm faces a tax rate of 40%. What will be the firm’s weight on preferred stock?

Answer 1

Weight on preferred stock = 0.1154 or 11.54%

Step-by-step explanation:

The capital structure of a firm can be made up of one, two or all of the following components namely Debt, preferred stock and common equity. To calculate the firm's weight on the preferred stock, we need to calculate the total value of the firm's target capital structure and divide the value of preferred stock in the capital structure by the total value of the target capital structure.

Total value of capital structure = 64519 + 17673 + 70938 = 153130

Weight on preferred stock = 17673 / 153130 = 0.1154 or 11.54%