Question

The management of California Potato Industries (CPI) is planning next year’s capital budget. The company’s earnings...

The management of California Potato Industries (CPI) is planning next year’s capital budget. The company’s earnings and dividends are growing at a constant rate of 4%. The last dividends (DIV0) was $0.85; and the current equilibrium stock price is $6.85. CPI can raise new debt at a 12% before-tax cost. CPI is at its optimal capital structure which is 35% debt and 65% equity, and the firm’s marginal tax rate is 38%. FCI has the following independent, indivisible, and equally risky investment opportunities.

Project

Cost

Rate of Return

A

-$12,000

18%

B

-$11,000

17%

C

-$15,000

16%

D

-$25,000

12%

1) What is CPI's WACC?

2) What is CPI's optimal capital budget?

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