ative Case 4 Eco Plastics Company ince its inception, Eco Plastics Company has been revolutionizing plastic and try- ing to do its part to save the environment. Eco's founder, Marion Cos oped a biodegradable plstic that her company is marketing to panies throughout the southeastern United States. After operating as a private company for 6 years, Eco went public in 2012 and is listed on the Nasdag stock exchange by, devel- manufacturing com- As the chief financial officer of a young company with lots of investment oppor- tunities, Eco's CFO closely monitors the firm's cost of capital. The on each of the individual costs of Eco's three main financing preferred stock, and common stock. The target capital structure the weights in the following table: CFO keeps tabs sources: long-term debt for Eco is given by Source of capital Long-term deht Preferred stock Common stock equity Weight 30% 20 50 Total At the present time, Eco can raise debt by selling 20-year bonds with a $1,000 par value and a 10.5% annual coupon interest rate. Eco's corporate tax rate is 21%, and its bonds generally require an average discount of S45 per bond and flo- tation costs of $32 per bond when being sold. Eco's outstanding preferred stock pays a 9% dividend and has a S95-per-share par value. The cost of issuing and sell ing additional preferred stock is expected to be $7 per share. Because Eco is a young firm that requires lots of cash to grow, it does not currently pay a dividend to common stockholders. To track the cost of common stock, the CFO uses the capital asset pricing model (CAPM). The CFO and the firm's investment advisors believe that the appropriate risk-free rate is 4% and that the market's expected re- turn equals 13%. Using data from 2012 through 2018, Eco's CFO estimates the firm's beta to be 1.3. Although Eco's current target capital structure includes 20% preferred stock, the company is considering using debt financing to retire the outstanding preferred stock, thus shifting their target capital structure to 50% long-term debt and 50% common stock. If Eco shifts its capital mix from preferred stock to debt, its financial advisors expect its beta to increase to 1.5. TO DO a. Calculate Eco's current after-tax cost of long-term debt. b. Calculate Eco's current cost of preferred stock. c. Calculate Eco's current cost of common stock. d. Calculare Eco's current weighted average cost capital (WACC). 427 R Risk and the Required Rate of Return e. (1) Assuming that the debt financing costs do not change, what effect would a shift to a more highly leveraged capital structure consisting of 50% long. term debt, 0% preferred stock, and 50% common stock have on the risk premium for Eco's common stock? What would be Eco's new cost of com- mon equity? (2) What would be Eco's new weighted average cost of capital (WACC)? (3) Which capital structure-the original one or this one-seems better? Why? CH 12