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8-3040 2010 COC

# 8-3040 2010 COC - THE COST OF CORPORATE CAPITAL There are...

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THE COST OF CORPORATE CAPITAL

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There are four sources of long-term capital: Bonds Preferred stock Weighted Average Cost of Capital Retained earnings WACC Common stock k = R f + risk premium return required business risk (investment policy) by investors financial risk (financing policy) maturity risk (yield curve) liquidity risk
Cost of Bonds (when sold for par value) Bonds are the only tax deductible cost k d (1 - T) Assume: A 25 year bond with a 12% coupon, selling price \$1,000. Tax rate 40%. k d = 12(1 - .40) = 7.2% Before tax cost

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Cost of Bonds (when not sold for par value) Assume: AVM Corp. sells a 20 year bond with a 12% coupon, for \$930 net. What would be the cost to AVM of this bond. The tax rate is 40%. N 40 PMT 60 PV -930 FV 1000 CPT I/Y times 2 = 6.49 x 2 = 12.98% 12.98(.60) = 7.79%
Cost of Preferred Stock k p = D p /P p Assume: Annual cash dividend = \$2.80 per share Selling price = \$40 per share k p = \$2.80/\$40 = 7.0%

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Cost of Retained Earnings k s = D 1 /P o + g Assume: Dividend for the past 12 months = \$3.00 Market value of the common stock = \$50 Expected growth rate of the dividend = 10% R f = 5%, k m = 14%, Beta = 1.20 DCF method k s = \$3.00(1.10)/\$50 + .10 = 16.60% CAPM method k s = 5 + 1.20(14 - 5) = 15.8%
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8-3040 2010 COC - THE COST OF CORPORATE CAPITAL There are...

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