WACC Lancaster Engineering Inc. (LEI) has the following capital structure, which it considers to be optimal:

Debt 25%

Preferred stock 15 Common equity 60 100%

LEI’s expected net income this year is $34 285 72; its established dividend payout ratio is 30%; its federal-plus-state tax rate is 40%; and investors expect future earnings and dividends to grow at a constant rate of 9%. LEI paid a dividend of $3 60 per share last year, and its stock currently sells for $54 00 per share. LEI can obtain new capital in the following ways:

• New preferred stock with a dividend of $11 00 can be sold to the public at a price of

$95 00 per share.

• Debt can be sold at an interest rate of 12%.

a. Determine the cost of each capital component.

b. Calculate the WACC.

c. LEI has the following investment opportunities that are average-risk projects:

Project Cost at t = 0 Rate of Return A $10,000 17.4%

B 20,000 16.0 C 10,000 14.2 D 20,000 13.2 E 10,000 12.0 Which projects should LEI accept? Why? Assume that LEI does not want to issue any new common stock.

AppendixLO1