Reference no: EM132408810
Part I:
Julie Gates, a recent Finance graduate, has been hired as a financial analyst in Macroworld's corporate finance department. Macroworld is a large computer software and sometimes hardware & electronic gadget company. Julie's first major assignment has her involved with the analysis of three different capital budgeting projects. The first involves opening for the first time a chain of boutique Macroworld Shoppe retail stores where customers could buy Macroworld products & third-party accessories and bring in their Macroworld software equipped computers and other Macroworld devices for training and technical support at the in-store Brilliant Lounge. The second project involves the development and sale of a new productivity software suite that would include a spreadsheet program that actually has a net present value function that works correctly without tinkering. This new software suite would be called MacroOffice. The third project involves the potential development and sale of smartphones, phalet phones, and slim 7- and 10inch slate tablet devices called the M-Mobile.
Before analyzing these potential projects, Julie must estimate Macroworld's weighted average cost of capital. This process involves finding the market value proportions of the company's outstanding long-term financial securities as an estimate of the company's capital structure and then estimating investors' required returns on each type of the company's securities which will be Macroworld's component capital cost estimates. In the following three exhibits Julie has been given balance sheet data and market data to help her with her task.
Exhibit 1: Macroworld Balance Sheet Data (in billons of dollars)
Long-term bonds
40.0
Preferred Stock
20.0*
Common Equity
80.0*
Total Long-term Financing
140.0
*Macroworld has 0.4 billion shares of preferred stock and 4 billion shares of common stock outstanding.
Exhibit 2: Market Price Data
Long-term semi-annual coupon bonds have a total par value of $40 billion, an annual coupon rate of 6 percent, 25 years to maturity, and currently have a price equal to 115% of their par value.
Preferred stock has a dividend yield of 8% of the stock's $50 par value. This preferred stock currently sells for $53 per share.
Macroworld's current common stock price is $70 per share with a current annual dividend of $1.30 per share
Exhibit 3: Market and Company Forecasts and Other Information
The 10-year Treasury bond rate is 2%. The company expects/requires an overall stock market return of 10%.
Macroworld's beta is 1.3. The company's marginal tax rate is 40%.
Stock market analysts (and Macroworld) expect the company's dividends and earnings to grow at a constant 10 percent annual rate for the foreseeable future.
For part I of her assignment, Julie has been asked to answer the following questions. Julie has asked you for your help in answering these questions.
- What is Macroworld's cost of debt on a before and after-tax basis?
- What is the dividend discount model (DCF) estimate of Macroworld's cost of retained earnings?
- What is your final estimate of the cost of retained earnings for Macroworld? What is
- Macroworld's WACC based on this estimate?