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A firm has a capital structure containing 60 percent debt and 40 percent common stock equity. Its outstanding bonds offer investors a 6.5 percent yield to maturity. The risk-free rate currently equals 5 percent, and the expected risk premium on the market portfolio equals 6 percent. The firm’s common stock beta is 1.20.
a. What is the firm’s required return on equity?
b. Ignoring taxes, use your finding in part a to calculate the firm’s WACC.
c. Assuming a 40 percent marginal tax rate, recalculate the firm’s WACC found in part b.
d. Compare and contrast the values for the firm’s WACC found in parts b and c.
Bonds mature in 13 years. The bonds have a face value of $1,000 and an 9% coupon rate, paid semi-annually. The price of the bonds is $1,150. Bonds are callable in five years at a price of $1,050. Need YTM and YTC
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Which of the following is a true regarding the appropriate tax rate to be used in the WACC?
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Since the use of financial leverage magnifies the potential returns to shareholders, investors should be willing to pay a premium for the stock of firms that have greater amounts of leverage." Do you agree or disagree with the above statement? Why?
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