Question

question 5
an analyst gathered the following data about a company:

capital structure	required rate of return
20% preferred stock	11% for preferred stock
50% common stock	18% for common stock

assuming a 40% tax rate, what after - tax rate of return must the company earn on its investments?
a 10.0%
b 14.2%
c none of these are correct
d 12.4%
e 13.0%

question 6
bud is an undiversified investor and is considering two alternative stocks for purchase. stock a has a beta of 0.85 and stock b has a

Explanation:

Step1: Calculate the after - tax cost of debt

The formula for the after - tax cost of debt is \(K_d(1 - T)\), where \(K_d\) is the cost of debt and \(T\) is the tax rate. Given \(K_d = 10\%\) and \(T=40\%\), then \(K_d(1 - T)=10\%(1 - 0.4)=6\%\)

Step2: Calculate the weighted - average cost of capital (WACC)

The formula for WACC is \(WACC=w_dK_d(1 - T)+w_pK_p + w_eK_e\), where \(w_d\), \(w_p\), \(w_e\) are the weights of debt, preferred stock, and common stock respectively, and \(K_d\), \(K_p\), \(K_e\) are the cost of debt, preferred stock, and common stock respectively.
We have \(w_d = 30\%=0.3\), \(w_p=20\% = 0.2\), \(w_e=50\%=0.5\), \(K_d(1 - T)=6\%\), \(K_p = 11\%\), \(K_e=18\%\)

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Answer:

E. 13.0%