Quiz6_B(Answers)

Quiz6_B(Answers) - BADM 115 – Section 11 Prof. Isabelle...

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Unformatted text preview: BADM 115 – Section 11 Prof. Isabelle Bajeux‐Besnainou Fall 2008 Form B QUIZ #6 1. (3 points) What will be the nominal rate of return on a perpetual preferred stock with a $100 par value, a stated dividend of 9.5 percent of par, and a current market price of a. $55 b. $90 c. $150 ANSWER: Vp = Dp/rp; therefore, rp = Dp/Vp. a. rp = $9.5/$55 = 17.27%. b. rp = $9.5/$90 = 10.56%. c. rp = $9.5/$150 = 6.33%. 2. (3 points) The Patrick Company’s cost of common equity is 15 percent, its before‐tax cost of debt is 18 percent, and its marginal tax rate is 35 percent. The stock sells at book value. Using the following balance sheet, calculate Patrick’s WACC. Assets Liabilities and Equity $ 260 Cash Accounts receivable 190 $ 1,107 Inventories Long‐term debt 800 Plant and equipment, net Common equity 1,210 1,353 Total assets $ 2,460 Total liabilities and equity $ 2,460 ANSWER: Capital Sources Long‐term debt Common Equity Amount $1,107 1,353 $2,460 Capital Structure Weight 45.0% 55.0 100.0% WACC = wdrd(1 – T) + wcrs = 0.45(0.18)(0.65) + 0.55(0.15) = 0.0527 + 0.0825 = 13.52%. 3. (4 points) Javits & Sons’ common stock currently trades at $55 a share. It is expected to pay an annual dividend of $7.00 a share at the end of the year (D1 = $7.00), and the constant growth rate is 4.0 percent a year. a. What is the company’s cost of common equity if all of its equity comes from retained earnings? b. If the company were to issue new stock, it would incur an 8 percent flotation cost. What would the cost of equity from new stock be? ANSWER: a. P0 = $55; D1 = $7.00; g = 4.0%; rs = D1/P0 + g = 16.73%. b. F = 8%; re = D1/[(1‐F)*P0] + g = 17.83%. B ‐ 1 ...
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