ch20 problem 28 - 3 Cost of Capital: Problem 28 Cost of...

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1 Cost of Capital: Problem 28 20 – year bonds at par, 5% annual coupon Net proceeds will be $980 per bond $2 preferred dividend, Net proceeds $22 Common equity beta = 1.10 Risk-free rate = 1% Required market return = 10% Price $30, Net proceeds $28.50 Tax rate = 20%
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Cost of Capital: Problem 28 a.Determine the firm’s cost of long-term debt, preferred shares, and common 2
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Cost of Capital: Problem 28 Cost of Debt: By financial calculator: Set P/Y = C/Y =1, PMT = 50(1 - .20) = $40; PV = -980; FV = 1,000; N = 20. Compute I/Y = 4.15%, which is the firm’s annual after-tax cost of debt.
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Unformatted text preview: 3 Cost of Capital: Problem 28 Cost of Preferred shares: K = 2/22 = 9.09% Cost of Common Shares: K = 0.01 + 1.10(0.10 0.01) = 10.90% External: 0.1090(30/28.50) = 11.47% 2011 Dr. William F. Rentz & Associates, All Rights Reserved 4 Cost of Capital: Problem 28 b.Calculate MCC given target capital structure of 30% debt, 10% preferred, and 60% common. Assume that firm has $3 million in additions to retained earnings and that it wants to invest $3 million. 2011 Dr. William F. Rentz & Associates, All Rights Reserved 5 Cost of Capital: Problem 28 Common equity Break Point = $3M/0.6 = $5M. So, we use the cost of common equity using internal funds. MCC= 0.3(0.0415) + 0.1(0.0909) + 0.6(0.1090) = 8.70% 2011 Dr. William F. Rentz & Associates, All Rights Reserved 6...
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ch20 problem 28 - 3 Cost of Capital: Problem 28 Cost of...

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