Optimal capital structure Suppose a firm has four pieces of capital structure.

They are as follows:

• Common stock that a beta of 1.21. In addition, the market risk premium is 9.1 % and the risk-free rate is 2.2 %. The stock is selling for $13.00 per share.

• Preferred stock that has a cost of 5.4 %.

• Bond 1: Long-term corporate bonds with 10 years left until maturity that are currently selling for $978.03 each. The coupon rate is 7.5 % and the face value is $1,000. Payments are made semiannually.

• Bond 2: Long-term corporate bonds that are selling for $1,004.87. The coupon rate is 8.41 %, and there is 17 years left until maturity. Face value is $1,000, and payments are made semiannually.

Assuming the following represents the only available options, which is the optimal capital structure?

Transcribed Image Text:

Weight of common stock 20 40 60 70 Weight of bond 2 Weight of preferred stock Weight of bond 1 10 0205 30 40 30 10 10 10 20 15 10