Solved: Northwest Utility Company faces increasing needs

for capital Fortunately it

Northwest Utility Company faces increasing needs for capital. Fortunately, it has an Aa3 credit
rating. The corporate tax rate is 40 percent. Northwest’s treasurer is trying to determine the
corporation’s current weighted average cost of capital in order to assess the profitability of
capital budgeting projects.
Historically, the corporation’s earnings and dividends per share have increased about 8.2
percent annually and this should continue in the future. Northwest’s common stock is selling at
$64 per share, and the company will pay a $6.50 per share dividend (D1).
The company’s $96 preferred stock has been yielding 8 percent in the current market. Flotation
costs for the company have been estimated by its investment banker to be $6.00 for preferred
stock.
The company’s optimum capital structure is 55 percent debt, 20 percent preferred stock, and
25 percent common equity in the form of retained earnings. Refer to the following table on bond
issues for comparative yields on bonds of equal risk to Northwest.

Compute the answers to the following questions from the information given.
a. Cost of debt, Kd (use the accompanying table––relate to the utility bond credit rating for yield)
b. Cost of preferred stock, Kp
c. Cost of common equity in the form of retained earnings, Ke
d. Weighted average cost ofcapital

Northwest Utility Company faces increasing needs for capital Fortunately it

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