Confused Finance Student

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ABC Ltd, a company that specialises in toys, is considering five investments. The cost of each is shown below. Retained earnings of $850,000 will be available for investment purposes, and management can issue the following securities:

Bonds: $350,000 can be issued at a before-tax cost of 9%. Above $350,000 the cost will be 10.75% before tax.
Preference shares: shares can be issued at the prevailing market price. Issue costs will be 17.5¢ per share up to an issue size of $100,000; for any additional shares, costs will be 24¢ per share.
Ordinary equity: shares will be issued at the market price. For an issue of $300,000, costs will be 20¢ per share. For any additional shares, the costs would be 27.5¢ per share
The tax rate for the firm is 30%. Ordinary dividends last year were 25¢ and are expected to grow at an annual rate of 10%. Market prices are $97.50 for bonds, $4.90 for preference shares, and $4.30 for ordinary shares.

Determine which projects should be accepted, based upon a comparison of the IRR of the investments and the weighted marginal cost of capital. The firm's structure is shown below, and the same mix is to be used for future investments. Since the majority of its income is generated in Australia and its shareholders are Australian residents, the company maximises its payment of franked dividends.

Investment
Investment Cost
Before-Tax IRR
A
$250,000
21%

B
$700,000
17%

C
$100,000
12%

D
$500,000
13%

E
$250,000
17%

Total
$1,800,000


Type of Financing Amount of Capital
Percentage of Financing

Bonds: (9% coupon, $100 par, 18 year maturity) $2,800,000
35%

Preference shares: (300,000 shares, $4.50 par, 10% dividend) $1,200,000
15%

Ordinary equity $4,000,000
50%

Total $8,000,000
100%