Gulf Coast Tours currently has a weighted average cost of capital of 11.3 percent based on a combination of debt and equity financing. The firm has no preferred stock. The current debt-equity ratio is 0.58 and the aftertax cost of debt is 6.4 percent. The company just hired a new president who is considering eliminating all debt financing. All else constant, what will the firm's cost of capital be if the firm switches to an all-equity firm?
10.45 percent
12.62 percent
12.89 percent
13.37 percent
14.32 percent
Gulf Coast Tours currently has a weighted average cost of capital of 11.3 percent based on a combination of debt and equity financing. The firm has no preferred stock. The current debt-equity ratio is 0.58 and the aftertax cost of debt is 6.4 percent. The company just hired a new president who is considering eliminating all debt financing. All else constant, what will the firm's cost of capital be if the firm switches to an all-equity firm?
10.45 percent
12.62 percent
12.89 percent
13.37 percent
14.32 percent
Related questions
Sauer Milk Inc. wants to determine the minimum cost of capital point for the firm. Assume it is considering the following financial plans:
| Cost (aftertax) | Weights | |||||
| Plan A | ||||||
| Debt | 6.0 | % | 15 | % | ||
| Preferred stock | 12.0 | 10 | ||||
| Common equity | 16.0 | 75 | ||||
| Plan B | ||||||
| Debt | 6.5 | % | 25 | % | ||
| Preferred stock | 12.5 | 10 | ||||
| Common equity | 17.0 | 65 | ||||
| Plan C | ||||||
| Debt | 7.0 | % | 35 | % | ||
| Preferred stock | 12.7 | 10 | ||||
| Common equity | 9.8 | 55 | ||||
| Plan D | ||||||
| Debt | 9.0 | % | 45 | % | ||
| Preferred stock | 13.2 | 10 | ||||
| Common equity | 11.5 | 45 | ||||
a-1. Compute the weighted average cost for four plans. (Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)
Plan A:
Plan B:
Plan C:
Plan D:
a-2. Which of the four plans has the lowest weighted average cost of capital?
| Plan A | |
| Plan B | |
| Plan C | |
| Plan D |
b. What is the relationship between the various types of financing costs and the debt-to-equity ratio?
| All types of financing costs increase as the debt-to-equity ratio increases. | |
| All types of financing costs decrease as the debt-to-equity ratio increases. |
