Exam 9: The Cost of Capital

The common stock for El Viss Company currently sells for $20 per share.The firm just paid a dividend of $1.50,and the dividend three years ago was $1.30.Dividends per share are anticipated to grow at the same rate in the future as they have over the past three years.Flotation costs for new shares will be 6% of the selling price.Calculate the following: a.the cost of retained earnings b.the cost of external equity capital

A corporate bond has a face value of $1,000 and a coupon rate of 5%.The bond matures in 15 years and has a current market price of $925.If the corporation sells more bonds it will incur flotation costs of $25 per bond.If the corporate tax rate is 35%,what is the after-tax cost of debt capital?

Preferred dividends are paid with before-tax dollars because the dividend rate is known,whereas common stock dividends are paid with after-tax dollars.

Royal Mediterranean Cruise Line's common stock is selling for $22 per share.The last dividend was $1.20,and dividends are expected to grow at a 6% annual rate.Flotation costs on new stock sales are 5% of the selling price.What is the cost of Royal's new common stock?

The risk free rate of return is 2.5% and the market risk premium is 8%.Penn Trucking has a beta of 2.2 and a standard deviation of returns of 28%.Penn Trucking's marginal tax rate is 35%.Analysts expect Penn Trucking's dividends to grow by 6% per year for the foreseeable future.Using the capital asset pricing model,what is Penn Trucking's cost of retained earnings?

If the before-tax cost of debt is 7% and the firm has a 40% marginal tax rate,the after-tax cost of debt is 2.8%.

A corporate bond has a face value of $1,000 and a coupon rate of 9%.The bond matures in 14 years and has a current market price of $946.If the corporation sells more bonds it will incur flotation costs of $26 per bond.If the corporate tax rate is 35%,what is the after-tax cost of debt capital?

A company has preferred stock with a current market price of $18 per share.The preferred stock pays an annual dividend of 4% based on a par value of $100.Flotation costs associated with the sale of preferred stock equal $1.50 per share.The company's marginal tax rate is 40%.Therefore,the cost of preferred stock is

Burns and Nuble is considering an investment in a project which would require an initial outlay of $350,000 and produce expected cash flows in years 1-5 of $95,450 per year.You have determined that the current after-tax cost of the firm's capital (required rate of return)for each source of financing is as follows: Cost of Long-Term Debt 7% Cost of Preferred Stock 11% Cost of Common Stock 15% Long term debt currently makes up 25% of the capital structure,preferred stock 15%,and common stock 60%.What is the net present value of this project?

Five Rivers Casino is undergoing a major expansion.The expansion will be financed by issuing new 15-year,$1,000 par,9% annual coupon bonds.The market price of the bonds is $1,070 each.Five Rivers flotation expense on the new bonds will be $50 per bond.Five Rivers marginal tax rate is 35%.What is the yield to maturity on the newly-issued bonds?

Acme Conglomerate Corporation operates three divisions.One division involves significant research and development,and thus has a high-risk cost of capital of 15%.The second division operates in business segments related to Acme's core business,and this division has a cost of capital of 10% based upon its risk.Acme's core business is the least risky segment,with a cost of capital of 8%.The firm's overall weighted average cost of capital of 11% has been used to evaluate capital budgeting projects for all three divisions.This approach will

Using the weighted cost of capital as a cutoff rate assumes that future investments will be financed so as to maintain the firm's target degree of financial leverage.

A corporation may lower its cost of capital by shifting a portion of its total financing from a higher cost source of capital,such as common equity,to a lower cost source of capital,such as debt.

In general,which of the following rankings,from highest to lowest cost,is most accurate?

Sutter Corporation's common stock is selling for $16.80 a share.Last year Sutter paid a dividend of $.80.Investors are expecting Sutter's dividends to grow at an annual rate of 5% per year.What is the cost of internal equity?

Interest rate parity exists because

The risk free rate of return is 3% and the expected return on the market portfolio is 14%.Starship Enterprises has a beta of 2.0 and a standard deviation of returns of 26%.Starship's marginal tax rate is 35%.Analysts expect Starship's net income to grow by 12% per year for the next 5 years.Using the capital asset pricing model,what is Starship Enterprises' cost of retained earnings?

The firm's cost of capital is important when evaluation the firm's overall value,but should not be used to evaluate individual projects which have their own unique characteristics.

A company is going to issue a $1,000 par value bond that pays a 7% annual coupon.The company expects investors to pay $942 for the 20-year bond.The expected flotation cost per bond is $42,and the firm is in the 34% tax bracket.Compute the following: a.The yield to maturity on the firm's bonds b.The firm's after-tax cost of existing debt c.The firm's after-tax cost of new debt

Clothier,Inc.has a target capital structure of 40% debt and 60% common equity,and has a 40% marginal tax rate.If Clothier's yield to maturity on bonds is 7.5% and investors require a 15% return on Clothier's common stock,what is the firm's weighted average cost of capital?