Chapter 9 Notes

Question 1

Sources of Capital

Answer 1

Long Term Debt (Bonds)
Equity (Stock)
Preferred Stock
Common Stock
Retained Earnings

Question 2

Cost of each source of Capital for the Firm

Answer 2

Cost of Long-Term Debt
Cost of Preferred Stock
Cost of Common Stock
Cost of Using Retained Earnings

Question 3

The cost of capital represents:

Answer 3

the firm’s total cost of financing (what they pay to get capital) as a % of the total financing, and

the minimum rate of return as a % that an investment must earn to add value to the firm (what they need to earn as a % of the total investment).

Question 4

Most firms attempt to maintain an optimal mix of debt and equity financing (capital structure).

Answer 4

To capture all of the relevant financing costs, assuming some desired mix of financing, we need to look at the overall cost of capital rather than just the cost of any single source of financing

Question 5

Pretax cost

Answer 5

is the financing cost associated with new funds, before taxes are applied

Question 6

Net proceeds

Answer 6

are the funds actually received by the firm from the sale of a security (the price paid by investors for the instrument less floatation costs).