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Paul Altero has gone public with his Bubbakoos Buritos restaurant chain. His current capital structure is...

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Finance

Paul Altero has gone public with his Bubbakoos Buritosrestaurant chain. His current capital structure is as follows:10,000 shares of common stock at $20 per share at a cost of 14%;3,200 shares of preferred stock at $40 per share at a cost of 11%;and 600 bonds at $980 each at a before-tax cost of 9%. If hiscorporate tax rate is 25%, what should be the company’s requiredrate of return?

Answer & Explanation Solved by verified expert
4.2 Ratings (847 Votes)

Total amount of common stocks outstanding = 10000*20
= $200,000.00
Total amount of Preferred stocks outstanding = 3200*40
= $128,000.00
Total amount of debt outstanding = 600*980
= $588,000.00
After tax cost of debt ({because we get tax benefit on interest expense) = Cost before tax *(1-taxrate)
= 9%*(1-0.25)
= 0.0675 or 6.75%
Total capital = Total common stock+total prefered stock+total debt
= $200,000+$128,000+$588,000
= $916,000.00
Required rate of return (cost of capital) = (amount of common stock*cost of common stock)+(amount of preferred stock*cost of preferred stock)+(amount of debt*after tax cost of debt)]/total capital
= [(200,000*14%)+(128,000*11%)+($588,000*6.75%)]/916,000
= (28,000+14,080+39,690)/916,000
= 81,770/916,000
= 0.0893 or 8.93%
Please upvote if you like the answer

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Paul Altero has gone public with his Bubbakoos Buritosrestaurant chain. His current capital structure is as follows:10,000 shares of common stock at $20 per share at a cost of 14%;3,200 shares of preferred stock at $40 per share at a cost of 11%;and 600 bonds at $980 each at a before-tax cost of 9%. If hiscorporate tax rate is 25%, what should be the company’s requiredrate of return?

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