Question

1. The cost of retained earnings is closest to

   		the cost of long-term debt
   		the cost of common stock equity
   		zero
   		the marginal cost of capital

2. When the face value of a bond equals its selling price, the firms cost of the bond will be equal

   		the coupon interest rate
   		the firm's WACC
   		the risk free rate
   		the firm's WMCC

3. Assume that the cost of equity is 10%, the pre tax cost of debt is 7% and the cost of preferred is 8%. The target capital structure is 10% preferred, 50% debt and 40% equity. What is the WACC assuming a 40% tax?

   		5.5%
   		6.9%
   		8.3%
   		9%

Answer 1

1)

Cost of common equity

Cost of retained earnings will always be equal to common equity. Since retained earnings are added to the equity of he company, cost of retained earnings will be equal to cost of common equity

2)

Coupon interest rate

When the bond is selling at par, cost of bond will always be equal to coupon interest rate. This is because, teh coupon are discounted by the same yield to maturity.

3)

WACC = 0.1*0.08 + 0.5*0.07*(1 - 0.4) + 0.4*0.1

WACC = 0.008 + 0.021 + 0.04

WACC = 0.069 or 6.9%