Rollins Corporation has a target capital structure consisting of 20% debt, 20% preferred stock, and 60% common equity. Assume the firm has insufficient retained earnings to fund the equity portion of its capital budget. It has 20-year, 12% semiannual coupon bonds that sell at their par value of $1,000. The firm could sell, at par, $100 preferred stock that pays a 12% annual dividend, but flotation costs of 5% would be incurred. Rollins beta is 1.2, the risk-free rate is 10%, and the market risk premium is 5%. Rollins is a constant growth firm that just paid a dividend of $2.00, sells for $27.00 per share, and has a growth rate of 8%. The firms policy is to use a risk premium of 4% when using the bond-yield-plus-risk-premium method to find rs. Flotation costs on new common stock total 10%, and the firms marginal tax rate is 40%.

Cost of debt 1. What is Rollins component cost of debt? a. 10.0% b. 9.1% c. 8.6% d. 8.0% e. 7.2%

2. What is Rollins cost of preferred stock? a. 10.0% b. 11.0% c. 12.0% d. 12.6% e. 13.2%

3. What is Rollins cost of retained earnings using the CAPM approach? a. 13.6% b. 14.1% c. 16.0% d. 16.6% e. 16.9%

4. What is the firms cost of retained earnings using the DCF approach? a. 13.6% b. 14.1% c. 16.0%

5. What is Rollins cost of retained earnings using the bond-yield-plus-risk-premium approach? a. 13.6% b. 14.1% c. 16.0% d. 16.6% e. 16.9%

6. What is Rollins WACC, if the firm has insufficient retained earnings to fund the equity portion of its capital budget? a. 13.6% b. 14.1% c. 16.0% d. 16.6% e. 16.9%

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