Market prices are $1,035 for bonds, $19 for preferred stock, and $35
for common stock. There will be sufficient internal common equity
funding (i.e., retained earnings) available such that the firm does not
plan to issue new common stock. Calculate the firm’s weighted average
cost of capital.
In part a we assumed that Nealon would have sufficient retained
earnings such that it would not need to sell additional common stock to
finance its new investments. Consider the situation now, when Nealon’s
retained earnings anticipated for the coming year are expected to fall
short of the equity requirement of 47 percent of new capital raised.
Consequently, the firm foresees the possibility that new common shares
will have to be issued. To facilitate the sale of shares, Nealon’s
investment banker has advised management that they should expect a price
discount of approximately 7 percent, or $2.45 per share. Under these
terms, the new shares should provide net proceeds of about $32.55. What
is Nealon’s cost of equity capital when new shares are sold, and what is
the weighted average cost of the added funds involved in the issuance
of new shares?