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Unformatted text preview: 1. Question: You were hired as a consultant to Keys Company, and you were provided with the following data: Target capital structure: 40% debt, 10% preferred, and 50% common equity. The aftertax cost of debt is 4.00%, the cost of preferred is 7.50%, and the cost of retained earnings is 11.50%. The firm will not be issuing any new stock. What is the firm’s WACC? Your Answer: 7.55 % 7.73 % 7.94 % 8.10 % C ORR ECT 8.32 % Instructor Explanation: Weight Cost Debt 40% 4.00% Preferred 10% 7.50% Common 50% 11.50% WACC = W d r d + W p r p + W s r s WACC = .40(4%) + .10(7.50%) + .50(11.50%) = 8.10% Points Received: 4 of 4 Comments: 2. Question: Several years ago the Haverford Company sold a $1,000 par value bond that now has 25 years to maturity and an 8.00% annual coupon that is paid quarterly. The bond currently sells for $900.90, and the company’s tax rate is 40%. What is the component cost of debt for use in the WACC calculation? Your Answer: 5.40 % C ORR ECT 5.73 % 5.98 % 6.09 % 6.24 % Instructor Explanation: You need to calculate the YTM on this bond. You can do this on the calculator with the following inputs: N 100; PV 900.90; PMT 20; FV 1,000; I/YR ??; I/YR = 2.25% which is the quarterly rate, so the annual rate is 2.25 * 4 = 9% This YTM is the beforetax cost of debt. We need the aftertax cost of debt which is: r d (1 – T) = 9% * (1  .40) = 5.40% Points Received: 4 of 4 Comments: 3. Question: Tapley Inc. recently hired you as a consultant to estimate the company’s WACC. You have obtained the following information. (1) Tapley's bonds mature in 25 years, have a 7.5% annual coupon, a par value of $1,000, and a market price of $936.49. (2) The company’s tax rate is 40%. (3) The riskfree rate is 6.0%, the market risk premium is 5.0%, and the stock’s beta is 1.5. (4) The target capital structure consists of 30% debt and 70% equity. Tapley uses The target capital structure consists of 30% debt and 70% equity....
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This note was uploaded on 08/06/2011 for the course MT 217 taught by Professor Finance during the Spring '11 term at Kaplan University.
 Spring '11
 finance

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