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Cost of Capital - Solutions11

# Cost of Capital - Solutions11 - 44 Your companys stock...

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Old Exam Questions - Cost of Capital - Solutions Page 34 of 42 Pages 44. Your company’s stock currently has a price of \$40 per share and is expected to pay a year-end dividend of \$1.00 per share (D 1 = \$1.00). The dividend is expected to grow at a constant rate of 6 percent per year. The company has insufficient retained earnings to fund capital projects and must, therefore, issue new common stock. The new stock has an estimated flotation cost of \$5 per share. Determine the company's cost of new equity capital. A. 9.40% B. 8.59% C. 9.13% D. 9.67% * E. 8.86% In this case, F is in dollar form, not a percent of the stock’s price: r e = D 1 /(P 0 - F) + g = \$1.00/(\$40 - \$5) + 6% = \$1.00/\$35 + 6% = 2.86% + 6% = 8.86% 45. Your firm has estimated that it will spend \$10 million on new capital budgeting projects during the coming year and has collected the following information: Your firm’s targeted capital structure consists of 40 percent debt, 10 percent preferred, and 50 percent common equity. Your firm expects to add \$3.0 million to retained earnings over the coming year that can be used to support the \$10 million in new projects. The company has corporate bonds outstanding that have 10 years until maturity, a face value of \$1,000, a semi-annual coupon of \$40, and a current price of \$934.96. New debt (at least \$7 million) can be issued as a private placement (no flotation expense) and will have the same level of risk as the firm’s current debt. New preferred stock (at least \$2 million) can be issued at a price of \$100 per share, but flotation costs will be 20 percent. This preferred stock will pay an annual dividend of \$9.60 per share. The company’s tax rate is 40 percent. The risk-free rate is 4 percent. The market risk premium is 8 percent. The stock’s beta is 1.4. The company expects to pay a dividend on its common stock of \$2.76 per share next year (D 1 ). The company’s ROE is 20% and its dividend payout rate is 70%. The current stock price (P 0 ) is \$30 per share. If the firm issues new shares of common stock, they will sell for \$30 per share, but the firm will have to pay flotation expense of 12.5%. Each of the project’s to be taken on has the same degree of risk as the current projects of the firm. Given this information, determine the weighted average (marginal) cost of capital of the very first dollar to be raised. *

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Cost of Capital - Solutions11 - 44 Your companys stock...

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