Armadillo Mfg. Co. has a target capital structure of 50% debt and - 1460

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Armadillo Mfg. Co. has a target capital structure of 50% debt and 50% equity. They are planning to invest in a project which will necessitate raising new capital. New debt will be issued at a before-tax yield of 12%, with a coupon rate of 10%. The equity will be provided by internally generated funds. No new outside equity will be issued. If the required rate of return on the firm’s stock is 15% and its marginal tax rate is 40%, compute the firm’s cost of capital.

          a.   13.5%

          b.   12.5%

          c.   7.2%

            d.   11.1%

Solution Description

Armadillo Mfg. Co. has a target capital structure of 50% debt and 50% equity. They are planning to invest in a project which will necessitate raising new capital. New debt will be issued