Sauer Milk Inc. wants to determine the minimum cost of capital point for the firm. Assume it is considering the following financial plans:

Cost (aftertax) Weights Plan A Debt 5.0 % 15 % Preferred stock 10.0 10 Common equity 14.0 75 Plan B Debt 5.2 % 25 % Preferred stock 10.2 10 Common equity 15.0 65 Plan C Debt 6.0 % 35 % Preferred stock 12.7 10 Common equity 8.6 55 Plan D Debt 8.0 % 45 % Preferred stock 13.6 10 Common equity 10.8 45

a-1. Compute the weighted average cost for four plans.

a-2. Which of the four plans has the lowest weighted average cost of capital?

b. What is the relationship between the various types of financing costs and the debt-to-equity ratio?