You have been asked to estimate the cost of capital for ABC Corporation. The company has 10 million shares and 200,000 b

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You have been asked to estimate the cost of capital for ABC
Corporation. The company has 10 million shares and 200,000 bonds
outstanding at par value $15,000. In addition, it has $500 million
in short-term debt from bank. The target capital structure ratio is
70 percent equity, 20 percent long-term debt, and 10 percent
short-term debt. The current capital structure has temporarily
moved slightly away from the target ratio. The company’s shares
currently trade at $50 with a beta of 1.30. The book value of the
shares is $45. The annual coupon rate of the bonds is 10 percent,
they trade at 105 percent of par, and they will mature in seven
years. Interest on the short-term debt is 10 percent. The current
yield on ten-year government bonds is 7 percent. The market risk is
15 percent. The corporate tax rate applicable is expected to be 25
percent.
What would be the appropriate cost of capital for the ABC
Corporation? Explain.