A firm has 10,000,000 shares of common stock outstanding, each with a market price of $15.00 per share. It has 80,000 bonds outstanding, each selling for $1020. The bonds mature in 15 years, have a coupon rate of 9%, and pay coupons semi-annually. The firm's equity has a beta of 1.9, and the expected market return is 10%. The tax rate is 30% and the risk-free rate is 4%. 

 

What is the cost of capital for the firm?

 

Cost of capital for the firm = Weight of Equity x Cost of Equity + Weight of Debt x Before Tax Cost of debt x (1-tax rate)

Cost of capital for the firm = 150/(150+81.6)*15.4% + 81.6/(150+81.6)*8.76%*(1-30%)

Cost of capital for the firm = 12.13%

 

1. How would a corporate financial manager use the cost of capital that you calculated?