22. Nevada Hydro is 40% debt-financed and has a weighted-average cost of capital of 9.7%:

WACC ⫽ 1 1 ⫺ Tc 2 rD D

V

⫹ rE E

V

⫽ 1 1 ⫺ .35 2 1 .085 2 1 .40 2 ⫹ .125 1 .60 2 ⫽ .097 Goldensacks Company is advising Nevada Hydro to issue $75 million of preferred stock at a dividend yield of 9%. The proceeds would be used to repurchase and retire common stock. The preferred issue would account for 10% of the preissue market value of the firm.

Goldensacks argues that these transactions would reduce Nevada Hydro’s WACC to 9.4%:

WACC ⫽ 1 1 ⫺ .35 2 1 .085 2 1 .40 2 ⫹ .09 1 .10 2 ⫹ .125 1 .50 2

⫽ .094, or 9.4%

Do you agree with this calculation? Explain. .