Question 1 [ Cost of capital]

1. Explain the purpose of weighted average cost of capital in corporate finance ?

2. ABC Inc. finances its operations with 40 percent debt and 60 percent equity. Its net income is $30 million and it has a dividend payout ratio of 30%. Its capital budget is B = $60 million this year. The annual yield on the companys debt is 7% and the companys tax rate is T = 30%. The companys common stock trades at P0 = $80 per share, and its current dividend of D0 = $4 per share is expected to grow at a constant rate of g = 5% a year. The floatation cost of external equity, if it is issued, is F = 2% of the dollar amount issued. What is the companys weighted average cost of capital?