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17 October, 17:09

A firm has determined its cost of each source of capital and its optimal capital structure which is comprised of the following sources;

Long-term debt = 45%, after-tax cost = 7%

Preferred stock = 15%, after-tax cost = 10%

Common stock equity = 40%, after-tax cost = 14%

The weighted average cost of capital for this firm is;

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  1. 17 October, 18:40
    0
    10.25%

    Explanation:

    Data provided in the question:

    Long-term debt = 45%, after-tax cost = 7%

    Preferred stock = 15%, after-tax cost = 10%

    Common stock equity = 40%, after-tax cost = 14%

    Now,

    The weighted average cost of capital for this firm will be calculated as:

    = Long term debt * after-tax cost + Preferred stock * after-tax cost + Common stock equity * after-tax cost

    or

    = 0.45 * 0.07 + 0.15 * 0.10 + 0.40 * 0.14

    or

    = 0.0315 + 0.015 + 0.056

    = 0.1025

    or

    = 0.1025 * 100%

    = 10.25%
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