Question

A company has 400,000 shares of common stock outstanding at a market price of $25 a share and a Beta of 0.72. This stock just paid an annual dividend of $1.10 a share (D₀). The dividend is expected to grow 3 percent annually. The firm also has 50,000 shares of 6.5 percent preferred stock with a market value of $60 a share. The preferred stock has a par value of $100. The company has $3.5 million of face value bonds with semiannual payments and a coupon rate of 12 percent. The bonds are currently priced at 104 percent of face value and mature in 19 years. The tax rate is 21 percent. The risk-free rate is 0.53 percent and the market risk premium is 11.15 percent.

(a)             What is the Cost of Debt (R_D)? Blank 1

(give in percentage terms: 0.0123 = 1.23%)

(b)             What is the Cost of Preferred Stock (R_P)?    Blank 2   

(give in percentage terms: 0.0123 = 1.23%)                             

(c)             What is the Cost of Common Equity (R_s using the DDM)? Blank 3

(give in percentage terms: 0.0123 = 1.23%)  

(d)              What is the Cost of Common Equity (R_s using CAPM)? Blank 4

(give in percentage terms: 0.0123 = 1.23%)  

(e)              What Cost of Common Equity will you use to calculate the WACC (R_s)? Blank 5

(give in percentage terms: 0.0123 = 1.23%)                                         

(f)   What is the market value of the Debt (D)? Blank 6

(Not the face value, but the current market value!)

     ($x,xxx,xxx)                                                      

(g)            What is the market value of the Preferred Stock (P)? Blank 7

($x,xxx,xxx)                                            

(h)   What is the market value of the Common Stock (E)? Blank 8

($xx,xxx,xxx)                                          

    

(i)              What is the total market value of the firm (V)? Blank 9

($xx,xxx,xxx)

                                                     

(j)            What is the Weighted Average Cost of Capital (WACC)? Blank 10

(give in percentage terms: 0.0123 = 1.23%)                  

Answer 1

a) Cost of debt = Ytm - Tax rate Ytm = PV -3.64  FV 3.5 N 38 (due to semiannually bond 19*2) PMT 0.21(3.5*12%/2) (Calculation in financial calculater)

Ytm= 5.739*2

11.478 -- 21%

=9.06%

b) Cost of preferred cost = 6.5/60= 10.83%

c) cost of equity (DDM)

ke= D1/P0 + G

1.133/25+0.03

= 7.532%

d) cost of equity (CAPM)

ke= RFR + Beta* market risk premium

0.53+ 0.72*11.15

= 8.558%

e) for wacc we will use 8.558% cost of equity

f) market value of debt is 104% of face value

3.5m/n * 104% = 3.64m/n

g)

market value of preferred stock

5000 shares * 60

= 3000000

h) market value of common stock

400000 shares * 25 per share

= 10000000

i) total market value of firm

equity 10000000

debt 3640000

preferred stock 3000000

total 16640000

j) Wacc

equity 8.558% * 60% = 5.13%

debt 9.06% * 22% = 1.9932%

preferred stock 10.83% * 18% = 1.949%

WACC 9.072%