Reference no: EM132554839

As a member of the Finance Department of Ranch Manufacturing, your supervisor has asked you to compute the appropriate discount rate to use when evaluating the purchase of new packaging equipment for the plant. From your reading you've learned that finance theory suggests that the appropriate discount rate should take into account the opportunity cost of capital (where else would you invest the funds and what might be the return percent?).

Under the assumption that the firm's present capital structure reflects the appropriate mix of capital sources for the firm, you have determined the market value of the firm's capital structure as follows:

Source of Capital                 Market Values

Common stock                    $6,000,000

Preferred stock                   $2,000,000

Bonds                                  $4,000,000

QUESTION 1: To finance the purchase, Ranch Manufacturing will sell 10-year bonds paying 7% per year at the market price of $1,050. Face value on the bonds is $1000. Preferred stock paying a $2.00 dividend can be sold for @25. Common stock for Ranch Manufacturing is currently selling for $55 per share and the firm paid a $3 dividend last year. Dividends are expected to continue growing at a rate of 5% per year into the indefinite future. If the firm's tax rate is 30%, what discount rate should you use to evaluate the equipment purchase?