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Longstreet Communications Inc. (LCI) has the following capital structure, which it considers to be optimal: debt = 25% (LCI has only long-term debt), preferred stock = 15%, and common stock = 60%. LCI’s tax rate is 25%, and investors expect earnings and dividends to grow at a constant rate of 6% in the future. LCI paid a dividend of $3.70 per share last year (D0), and its stock currently sells at a price of $60 per share. Ten-year Treasury bonds yield 6%, the market risk premium is 5%, and LCI’s beta is 1.3. The following terms would apply to new security offerings. Preferred stock: New preferred stock could be sold to the public at a price of $100 per share, with a dividend of $9. Flotation costs of $5 per share would be incurred. Debt: Debt could be sold at an interest rate of 9%. Common stock: All new common equity will be raised internally by reinvesting earnings. Find the component costs of debt, preferred stock, and common stock.   What is the WACC?

- November 14, 2022 - Edwin Tunner

Longstreet Communications Inc. (LCI) has the following capital structure, which it considers to be optimal: debt = 25% (LCI has only long-term debt), preferred stock = 15%, and common stock = 60%. LCI’s tax rate is 25%, and investors expect earnings and dividends to grow at a constant rate of 6% in the future. LCI paid a dividend of $3.70 per share last year (D0), and its stock currently sells at a price of $60 per share. Ten-year Treasury bonds yield 6%, the market risk premium is 5%, and LCI’s beta is 1.3. The following terms would apply to new security offerings.

Preferred stock: New preferred stock could be sold to the public at a price of $100 per share, with a dividend of $9. Flotation costs of $5 per share would be incurred.

Debt: Debt could be sold at an interest rate of 9%.

Common stock: All new common equity will be raised internally by reinvesting earnings.

  1. Find the component costs of debt, preferred stock, and common stock.

     

  2. What is the WACC?

     
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