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c. All else equal, an increase in a company’s stock price will increase its
marginal cost of new common equity, re.
d. Since the money is readily available, the after-tax cost of retained
earnings is usually much lower than the after-tax cost of debt.
e. If a company’s tax rate increases but the YTM on its noncallable
bonds remains the same, the after-tax cost of its debt will fall.
4. Which of the following statements is CORRECT?
a. Since debt capital can cause a company to go bankrupt but equity
capital cannot, debt is riskier than equity, and thus the after-tax cost of
debt is always greater than the cost of equity.
b. The tax-adjusted cost of debt is always greater than the interest rate on
debt, provided the company does in fact pay taxes.
c. If a company assigns the same cost of capital to all of its projects
regardless of each project’s risk, then the company is likely to reject
some safe projects that it actually should accept and to accept some risky
projects that it should reject.
d. Because no flotation costs are required to obtain capital as retained
earnings, the cost of retained earnings is generally lower than the after-
tax cost of debt.
e. Higher flotation costs tend to reduce the cost of equity capital.
5. Cranberry Corp. has two divisions of equal size: a computer
manufacturing division and a data processing division. Its CFO believes
that stand-alone data processor companies typically have a WACC of
8%, while stand-alone computer manufacturers typically have a 12%