Item 6

The treasurer of Sutton Security Systems is asked to compute the cost of fixed income securities for her corporation. Even before making the calculations, she assumes the aftertax cost of debt is at least 2 percent less than that for preferred stock.

Debt can be issued at a yield of 10.6 percent, and the corporate tax rate is 35 percent. Preferred shares will be priced at $74 and pay a dividend of $6.00. The flotation cost on the preferred stock is $5. (Do not round intermediate calculations. Round the final answers to 2 decimal places.)

a. Compute the aftertax cost of debt.

Aftertax cost of debt

%

b. Compute the aftertax cost of preferred stock.

Aftertax cost of preferred stock

%

c. Based on the facts given above, is she correct?

multiple choice

No

Yes