Old Exam Questions  Cost of Capital  Solutions
Page 7 of 42 Pages
K
S
= 0.04 + (0.05)(1.2) = 10%
Alternatively,
g = (0.10)(1 – 0.50) = 5%
K
S
= $2.20 / $44.00 + 0.05 = 0.05 + 0.05 = 10%
K
e
= $2.20 / ($44.00)(10.10) + 0.05 = 10.56%
Therefore,
WACC = (4.8%)(0.40) + (10.0%)(0.40) + (10.56%)(0.20)
= 1.92% + 4.0% + 2.112% = 8.032%
3.
Your company plans to issue debt with an annual coupon rate of 8.5% (interest paid
semiannually) and which will mature in 20 years at a par value of $1,000. Your firm’s
investment bankers have stated that the bonds can be sold publicly to investors at a
price of $980 per bond, but that the firm will be required to pay a flotation expense to
the investment bankers equal to 2% of this price. If the firm has a marginal corporate
tax rate of 35%, then what will be the firm’s aftertax cost on this new debt to be
issued?
A.
5.35%
B.
5.50%
C.
5.65%
*
D.
5.80%
E.
5.95%
Net Price = ($980) (1  .02) = $960.40
N = 40
PV = $960.40
PMT = ($85 / 2) = $42.50
FV = $1,000
Solve for I/YR = 4.464097130%
K
D
= (4.464097130) (2) = 8.928194260%
Aftertax K
D
= (8.928194260) (1 – 0.35) = 5.803326269% = 5.80%
YOU ARE GIVEN THE FOLLOWING INFORMATION FOR PROBLEMS 4  5:
Your company's current marketvalued capital structure, which is considered to be
optimal, is shown below:
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Old Exam Questions  Cost of Capital  Solutions
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Debt
40%
Preferred Stock
10%
Equity
50%
In order to meet their expansion plans for next year, the company has decided to raise
$5,000,000. Net Income is expected to be $550,000 next year. However, preferred
stock dividends are expected to account for $50,000 of this profit. The common stock
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 Spring '08
 Staff
 Corporate Finance, Cost Of Capital, Weighted average cost of capital

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