Compute the cost of internal equity

Reference no: EM133094363

The purpose of this assignment is to solidify your understanding on the applications of the cost of capital topics. The scores of this assignment will help in assessing the following learning goal of the course: "students successfully completing this course will be able to estimate and interpret the cost of capital of a firm based on different capital structures."

Instructions:

You are required to use a financial calculator or spreadsheet (Excel) to solve 10 problems (provided on page 4) related to the cost of capital. You are required to show the following three steps for each problem (a sample problem and solution is provided for guidance):
(i) Describe and interpret the assumptions related to the problem.
(ii) Apply the appropriate mathematical model to solve the problem.
(iii) Calculate the correct solution to the problem.

Problem #1: A company has $20 million of debt outstanding with a coupon rate of 7%. Currently the yield to maturity on these bonds is 10.50%. If the firm's tax rate is 40%, what is relevant cost of debt financing to this company (round your answer to two decimal places)?

Problem #2: Suppose a company currently has an outstanding bond issue. The bonds have 20 years until maturity, they pay a coupon rate of 7.50% on a semiannual basis. If the company's bonds are selling for $960 now, and the company's tax rate is 35%, what is its after-tax cost of debt (round your answer to two decimal places)?

Problem #3: A company's perpetual preferred stock currently trades at $87.50 per share and pays an $8 annual dividend. What is the firm's cost of preferred stock (round your answer to two decimal places)?

Problem #4: Assume that you have been provided with the following firm data: risk-free rate = 2%, market risk premium = 6.55%, and beta = 1.05. What is the cost of equity from retained earnings based on the CAPM approach (round your answer to two decimal places)?

Problem #5: A company hired you as a consultant to help them estimate its cost of capital. You have been provided with the following data: D0 = $0.80, P0 = $22.50, and g = 5% (constant). Based on the DCF approach, what is the cost of equity from retained earnings (round your answer to two decimal places)?

Problem #6: If a company's expected dividend is $1.50 per share of common stock, which is priced at $15.15. What is the cost of internal common equity if the long-term growth of dividends is projected to be 4% indefinitely (round your answer to two decimal places)?

Problem #7: A company is expected to pay a dividend of $1.90 next year. Dividends are expected to grow at a constant rate of 3% per year, and the stock price is currently $12.50. The company's marginal tax rate is a very low 15%. Compute the cost of internal equity (round your answer to two decimal places).

Problem #8: You were hired as a consultant to a company, whose target capital structure is 50% debt, 20% preferred, and 30% common equity. The after-tax cost of debt is 6.50%, the cost of preferred stock is 7.50%, and the cost of retained earnings is 12.25%. The firm will not be issuing any new stock. What is its WACC (round your answer to two decimal places)?

Problem #9: A company's capital structure consists of 40% debt and 60% equity. The before-tax cost of debt is 8.125%, the cost of retained earnings is 12%, and the tax rate is 35%. What is this company's WACC (round your answer to two decimal places)?

Problem #10 A company plans to maintain its optimal capital structure of 20% debt, 50% preferred stock, and 30% common stock into the future. The required return on each component is 10%, 11%, and 18%, respectively. Assuming a 32% marginal tax rate, what is the WACC of this company (round your answer to two decimal places)?

Reference no: EM133094363

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