WACC and target weights After careful analysis, Dexter Brothers has determined that its optimal capital structure is composed of the sources and target market value weights shown in the following table:

BEB

The cost of debt is estimated to be 4.4%; the cost of preferred stock is estimated to be 11.6%; the cost of retained earnings is estimated to be 15.1%; and the cost of new common stock is estimated to be 17.1%. All of these are after-tax rates. The company's debt represents 19%, the preferred stock represents 7%, and the common stock equity represents 74% of total capital on the basis of the market values of the three components. The company

expects to have a significant amount of retained earninas available and does not expect to sell any new common stock.

a. Calculate the weighted average cost of capital on the basis of historical market value weights.

D.

Calculate the weighted average cost of capital on the basis of target market value weights.

c. Compare the answers obtained in parts a and b. Explain the differences

Source of capital

Long-term debt 24%

Preferred stock 12

Common stock equity 64

Total 100%

source of capital. target market value weight

long term debt. 24%

preferred stock. 12

common stock equity. 64

total. 100%