60.
|
Mangrove Fruit Farms has a $250,000 bond issue outstanding that is selling at 92 percent of face value. The firm also has 1,500 shares of preferred stock and 15,000 shares of common stock outstanding. The preferred stock has a market price of $35 a share compared to a price of $24 a share for the common stock. What is the weight of the preferred stock as it relates to the firm's weighted average cost of capital?
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AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: Weight of preferred |
61.
|
Electronics Galore has 950,000 shares of common stock outstanding at a market price of $38 a share. The company also has 40,000 bonds outstanding that are quoted at 106 percent of face value. What weight should be given to the debt when the firm computes its weighted average cost of capital?
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AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: Weight of debt |
62.
|
Phillips Equipment has 80,000 bonds outstanding that are selling at par. Bonds with similar characteristics are yielding 7.5 percent. The company also has 750,000 shares of 7 percent preferred stock and 2.5 million shares of common stock outstanding. The preferred stock sells for $65 a share. The common stock has a beta of 1.34 and sells for $42 a share. The U.S. Treasury bill is yielding 2.8 percent and the return on the market is 11.2 percent. The corporate tax rate is 38 percent. What is the firm's weighted average cost of capital?
Re = 0.028 + 1.34 (0.112 - 0.028) = 0.14056 Rp = (0.07 × $100)/$65 = 0.10769 WACC = ($105m/$233.75m) (0.14056) + ($48.75m/$233.75m) (0.10769) + ($80m/$233.75m) (0.075) (1 - 0.38) = 10.15 percent |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
63.
|
Wayco Industrial Supply has a pre-tax cost of debt of 7.6 percent, a cost of equity of 14.3 percent, and a cost of preferred stock of 8.5 percent. The firm has 220,000 shares of common stock outstanding at a market price of $27 a share. There are 25,000 shares of preferred stock outstanding at a market price of $41 a share. The bond issue has a face value of $550,000 and a market quote of 101.2. The company's tax rate is 37 percent. What is the firm's weighted average cost of capital?
WACC = ($5,940,000/$7,521,600) (0.143) + ($1,025,000/$7,521,600) (0.085) + ($556,600/$7,521,600) (0.076) (1 - 0.37) = 12.81 percent |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
64.
|
Central Systems, Inc. desires a weighted average cost of capital of 8 percent. The firm has an aftertax cost of debt of 5.4 percent and a cost of equity of 15.2 percent. What debt-equity ratio is needed for the firm to achieve its targeted weighted average cost of capital?
WACC = 0.08 = [We × 0.152] + [(1 - We) × 0.054)]
We = 0.2653; Wd = 1 - We = 0.7347 Debt-equity ratio = 0.7347/0.2653 = 2.77 |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: Debt-equity ratio |
65.
|
R.S. Green has 250,000 shares of common stock outstanding at a market price of $28 a share. Next year's annual dividend is expected to be $1.55 a share. The dividend growth rate is 2 percent. The firm also has 7,500 bonds outstanding with a face value of $1,000 per bond. The bonds carry a 7 percent coupon, pay interest semiannually, and mature in 7.5 years. The bonds are selling at 98 percent of face value. The company's tax rate is 34 percent. What is the firm's weighted average cost of capital?
|
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
66.
|
Kelso's has a debt-equity ratio of 0.6 and a tax rate of 35 percent. The firm does not issue preferred stock. The cost of equity is 14.5 percent and the aftertax cost of debt is 4.8 percent. What is the weighted average cost of capital?
WACC = (1/1.6) (0.145) + (0.6/1.6) (0.048) = 10.86 percent
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
67.
|
Granite Works maintains a debt-equity ratio of 0.65 and has a tax rate of 32 percent. The firm does not issue preferred stock. The pre-tax cost of debt is 9.8 percent. There are 25,000 shares of stock outstanding with a beta of 1.2 and a market price of $19 a share. The current market risk premium is 8.5 percent and the current risk-free rate is 3.6 percent. This year, the firm paid an annual dividend of $1.10 a share and expects to increase that amount by 2 percent each year. Using an average expected cost of equity, what is the weighted average cost of capital?
Re = 0.036 + 1.2(0.085) = 0.138 Re = [($1.10 × 1.02)/$19] + 0.02 = 0.0790526 Re Average = (0.138 + 0.0790526)/2 = 0.108526 WACC = (1/1.65) (0.108526) + (0.65/1.65) (0.098) (1 - 0.32) = 9.20 percent |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
68.
|
Delta Lighting has 30,000 shares of common stock outstanding at a market price of $15.00 a share. This stock was originally issued at $31 per share. The firm also has a bond issue outstanding with a total face value of $280,000 which is selling for 86 percent of par. The cost of equity is 13 percent while the aftertax cost of debt is 6.9 percent. The firm has a beta of 1.48 and a tax rate of 30 percent. What is the weighted average cost of capital?
WACC = (450,000/690,800 * .13) + (240,800/690,800 * .069) = 10.87 percent |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
69.
|
The Market Outlet has a beta of 1.38 and a cost of equity of 14.945 percent. The risk-free rate of return is 4.25 percent. What discount rate should the firm assign to a new project that has a beta of 1.25?
RE = 0.14945 = 0.0425 + (1.38 × mrp); mrp = 0.0775
RProject = 0.0425 + (1.25 × 0.0775) = 13.94 percent |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-01 How to determine a firm's cost of equity capital. Section: 14.5 Topic: Discount rate |
70.
|
Silo Mills has a beta of 0.95 and a cost of equity of 11.9 percent. The risk-free rate of return is 2.8 percent. The firm is currently considering a project that has a beta of 1.03 and a project life of 6 years. What discount rate should be assigned to this project?
RE = 0.119 = 0.028 + (0.95 × mrp); mrp = 0.0958
RProject = 0.028 + (1.03 × 0.0958) = 12.67 percent |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-01 How to determine a firm's cost of equity capital. Section: 14.5 Topic: Discount rate |
71.
|
Travis & Sons has a capital structure which is based on 40 percent debt, 5 percent preferred stock, and 55 percent common stock. The pre-tax cost of debt is 7.5 percent, the cost of preferred is 9 percent, and the cost of common stock is 13 percent. The company's tax rate is 39 percent. The company is considering a project that is equally as risky as the overall firm. This project has initial costs of $325,000 and annual cash inflows of $87,000, $279,000, and $116,000 over the next three years, respectively. What is the projected net present value of this project?
WACC = (0.55 × 0.13) + (0.05 × 0.09) + [0.40 × 0.075 × (1 - 0.39)] =0.0943
NPV -$325,000 + ($87,000/1.0943) + ($279,000/1.09432) + ($116,000/1.09433) = $76,011.23 |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.5 Topic: Project NPV |
72.
|
Panelli's is analyzing a project with an initial cost of $110,000 and cash inflows of $65,000 in year one and $74,000 in year two. This project is an extension of the firm's current operations and thus is equally as risky as the current firm. The firm uses only debt and common stock to finance its operations and maintains a debt-equity ratio of 0.45. The aftertax cost of debt is 4.8 percent, the cost of equity is 12.7 percent, and the tax rate is 35 percent. What is the projected net present value of this project?
WACC = (1/1.45) (0.127) + (0.45/1.45) (0.048) = 0.102483
NPV = -$110,000 + ($65,000/1.102483) + ($74,000/1.1024832) = $9,840 |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.5 Topic: Project NPV |
73.
|
Carson Electronics uses 70 percent common stock and 30 percent debt to finance its operations. The aftertax cost of debt is 5.4 percent and the cost of equity is 15.4 percent. Management is considering a project that will produce a cash inflow of $36,000 in the first year. The cash inflows will then grow at 3 percent per year forever. What is the maximum amount the firm can initially invest in this project to avoid a negative net present value for the project?
WACC = 0.70(0.154) + 0.30(0.054) = 0.124
PV = $36,000/(0.124 - 0.03) = $382,979 |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.5 Topic: Project NPV |
74.
|
The Bakery is considering a new project it considers to be a little riskier than its current operations. Thus, management has decided to add an additional 1.5 percent to the company's overall cost of capital when evaluating this project. The project has an initial cash outlay of $58,000 and projected cash inflows of $17,000 in year one, $28,000 in year two, and $30,000 in year three. The firm uses 25 percent debt and 75 percent common stock as its capital structure. The company's cost of equity is 15.5 percent while the aftertax cost of debt for the firm is 6.1 percent. What is the projected net present value of the new project?
WACCFirm = (0.75 × 0.155) + (0.25 × 0.061) = 0.1315
WACCProject = 0.1315 + 0.015 = 0.1465 NPV = -$58,000 + ($17,000/1.1465) + ($28,000/1.14652) + ($30,000/1.14653) = -$1,964 |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-05 Some of the pitfalls associated with a firm's overall cost of capital and what to do about them. Section: 14.5 Topic: Project NPV |
75.
|
The Oil Derrick has an overall cost of equity of 13.6 percent and a beta of 1.28. The firm is financed solely with common stock. The risk-free rate of return is 3.4 percent. What is an appropriate cost of capital for a division within the firm that has an estimated beta of 1.18?
0.136 = 0.034 + 1.28mrp; mrp = 0.0796875
ReDivision = 0.034 + 1.18(0.0796875) = 12.80 percent |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-05 Some of the pitfalls associated with a firm's overall cost of capital and what to do about them. Section: 14.5 Topic: Divisional cost of capital |
76.
|
Miller Sisters has an overall beta of 0.79 and a cost of equity of 11.2 percent for the firm overall. The firm is 100 percent financed with common stock. Division A within the firm has an estimated beta of 1.08 and is the riskiest of all of the firm's operations. What is an appropriate cost of capital for division A if the market risk premium is 9.5 percent?
0.112 = rf + 0.79(0.095); rf = 0.03695
ReDivision = 0.03695 + 1.08(0.095) = 13.96 percent |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy Learning Objective: 14-05 Some of the pitfalls associated with a firm's overall cost of capital and what to do about them. Section: 14.5 Topic: Divisional cost of capital |
77.
|
Deep Mining and Precious Metals are separate firms that are both considering a silver exploration project. Deep Mining is in the actual mining business and has an aftertax cost of capital of 12.8 percent. Precious Metals is in the precious gem retail business and has an aftertax cost of capital of 10.6 percent. The project under consideration has initial costs of $575,000 and anticipated annual cash inflows of $102,000 a year for ten years. Which firm(s), if either, should accept this project?
Neither company should accept this project as the applicable discount rate for both firms is 12.8 percent and the NPV is negative at this discount rate. |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-05 Some of the pitfalls associated with a firm's overall cost of capital and what to do about them. Section: 14.5 Topic: Pure Play |
78.
|
Sister Pools sells outdoor swimming pools and currently has an aftertax cost of capital of 11.6 percent. Al's Construction builds and sells water features and fountains and has an aftertax cost of capital of 10.3 percent. Sister Pools is considering building and selling its own water features and fountains. The sales manager of Sister Pools estimates that the water features and fountains would produce 20 percent of the firm's future total sales. The initial cash outlay for this project would be $85,000. The expected net cash inflows are $17,000 a year for 7 years. What is the net present value of the Sister Pools project?
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-05 Some of the pitfalls associated with a firm's overall cost of capital and what to do about them. Section: 14.5 Topic: Pure Play |
79.
|
Decker's is a chain of furniture retail stores. Furniture Fashions is a furniture maker and a supplier to Decker's. Decker's has a beta of 1.38 as compared to Furniture Fashion's beta of 1.12. The risk-free rate of return is 3.5 percent and the market risk premium is 8 percent. What discount rate should Decker's use if it considers a project that involves the manufacturing of furniture?
Re = 0.035 + 1.12(0.08) = 12.46 percent
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AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-05 Some of the pitfalls associated with a firm's overall cost of capital and what to do about them. Section: 14.5 Topic: Pure Play |
80.
|
Bleakly Enterprises has a capital structure of 40 percent common stock, 10 percent preferred stock, and 50 percent debt. The flotation costs are 4.5 percent for debt, 7 percent for preferred stock, and 9.5 percent for common stock. The corporate tax rate is 34 percent. What is the weighted average flotation cost?
Average flotation cost = (0.40 × 0.095) + (0.10 × 0.07) + (0.50 × 0.045) = 6.8 percent
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AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-04 How to correctly include flotation costs in capital budgeting projects. Section: 14.6 Topic: Flotation costs |
81.
|
Justice, Inc. has a capital structure which is based on 30 percent debt, 5 percent preferred stock, and 65 percent common stock. The flotation costs are 11 percent for common stock, 10 percent for preferred stock, and 7 percent for debt. The corporate tax rate is 37 percent. What is the weighted average flotation cost?
Average flotation cost = (0.65 × 0.11) + (0.05 × 0.10) + (0.30 × 0.07) = 9.75 percent
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-04 How to correctly include flotation costs in capital budgeting projects. Section: 14.6 Topic: Flotation costs |
82.
|
The Daily Brew has a debt-equity ratio of 0.64. The firm is analyzing a new project which requires an initial cash outlay of $420,000 for equipment. The flotation cost is 9.6 percent for equity and 5.4 percent for debt. What is the initial cost of the project including the flotation costs?
Average flotation cost = (1/1.64) (0.096) + (0.64/1.64) (0.054) = 0.0796098
Initial cost = $420,000/(1 - 0.0796098) = $456,328 |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-04 How to correctly include flotation costs in capital budgeting projects. Section: 14.6 Topic: Project flotation costs |
83.
|
You are evaluating a project which requires $230,000 in external financing. The flotation cost of equity is 11.6 percent and the flotation cost of debt is 5.4 percent. What is the initial cost of the project including the flotation costs if you maintain a debt-equity ratio of 0.45?
Average flotation cost = (1/1.45) (0.116) + (0.45/1.45) (0.054) = 0.0967586
Initial cost = $230,000/(1 - 0.0967586) = $254,638 |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-04 How to correctly include flotation costs in capital budgeting projects. Section: 14.6 Topic: Flotation costs |
84.
|
Western Wear is considering a project that requires an initial investment of $274,000. The firm maintains a debt-equity ratio of 0.40 and has a flotation cost of debt of 8 percent and a flotation cost of equity of 10.5 percent. The firm has sufficient internally generated equity to cover the equity portion of this project. What is the initial cost of the project including the flotation costs?
Average flotation cost = (1/1.40) (0) + (0.40/1.40) (0.08) = 0.0228571
Initial cost = $274,000/(1 - 0.0228571) = $280,409 |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-04 How to correctly include flotation costs in capital budgeting projects. Section: 14.6 Topic: Flotation costs |
85.
|
Yesteryear Productions is considering a project with an initial start up cost of $960,000. The firm maintains a debt-equity ratio of 0.50 and has a flotation cost of debt of 6.8 percent and a flotation cost of equity of 11.4 percent. The firm has sufficient internally generated equity to cover the equity cost of this project. What is the initial cost of the project including the flotation costs?
Average flotation cost = (1/1.5) (0.0) + (0.5/1.5) (0.068) = 0.0226667 Initial cost = $960,000/(1 - 0.0226667) = $982,265
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy Learning Objective: 14-04 How to correctly include flotation costs in capital budgeting projects. Section: 14.6 Topic: Flotation costs |
86.
|
The City Street Corporation's common stock has a beta of 1.2. The risk-free rate is 3.5 percent and the expected return on the market is 13 percent. What is the firm's cost of equity?
RE = 0.035 + 1.2(0.13 - 0.035) = 14.9 percent
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-2 Learning Objective: 14-01 How to determine a firm's cost of equity capital. Section: 14.2 Topic: Cost of equity |
87.
|
Stock in Country Road Industries has a beta of 0.97. The market risk premium is 10 percent while T-bills are currently yielding 5.5 percent. Country Road's most recent dividend was $1.55 per share, and dividends are expected to grow at a 7 percent annual rate indefinitely. The stock sells for $32 a share. What is the estimated cost of equity using the average of the CAPM approach and the dividend discount approach?
RE = 0.055 + 0.97(0.10) = 0.152
RE = [($1.55 × 1.07)/$32] + 0.07 = 0.1218281 RE Average = (0.152 + 0.1218281)/2 = 13.69 percent |
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-3 Learning Objective: 14-01 How to determine a firm's cost of equity capital. Section: 14.2 Topic: Cost of equity |
88.
|
Holdup Bank has an issue of preferred stock with a $5 stated dividend that just sold for $92 per share. What is the bank's cost of preferred?
RP = $5/$92 = 5.43 percent
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AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-5 Learning Objective: 14-01 How to determine a firm's cost of equity capital. Section: 14.3 Topic: Cost of preferred |
89.
|
Decline, Inc. is trying to determine its cost of debt. The firm has a debt issue outstanding with 15 years to maturity that is quoted at 107 percent of face value. The issue makes semiannual payments and has an embedded cost of 9 percent annually. What is the aftertax cost of debt if the tax rate is 39 percent?
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-6 Learning Objective: 14-02 How to determine a firm's cost of debt. Section: 14.3 Topic: Cost of debt |
90.
|
Jiminy's Cricket Farm issued a 30-year, 8 percent, semiannual bond 6 years ago. The bond currently sells for 114 percent of its face value. What is the aftertax cost of debt if the company's tax rate is 31 percent?
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-7 Learning Objective: 14-02 How to determine a firm's cost of debt. Section: 14.3 Topic: Cost of debt |
91.
|
Mullineaux Corporation has a target capital structure of 41 percent common stock, 4 percent preferred stock, and 55 percent debt. Its cost of equity is 18 percent, the cost of preferred stock is 6.5 percent, and the pre-tax cost of debt is 8.5 percent. What is the firm's WACC given a tax rate of 39 percent?
WACC = 0.41(0.18) + (0.04)(.065) + (0.55)(.085)(1 - 0.39) = 10.49 percent
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-9 Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
92.
|
Cookie Dough Manufacturing has a target debt-equity ratio of 0.5. Its cost of equity is 15 percent, and its cost of debt is 11 percent. What is the firm's WACC given a tax rate of 31 percent?
WACC = (1/1.5)(0.15) + (0.5/1.5)(0.11)(1 - 0.31) = 12.53 percent
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-10 Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
93.
|
Fama's Llamas has a weighted average cost of capital of 9.5 percent. The company's cost of equity is 15.5 percent, and its pretax cost of debt is 8.5 percent. The tax rate is 34 percent. What is the company's target debt-equity ratio?
WACC = 0.095 = 0.155(E/V) + (0.085) (D/V) (1 - 0.34)
0.095(V/E) = 0.155 + 0.085(0.66) (D/E) 0.095(1 + D/E) = 0.155 + 0.0561(D/E) D/E = 1.54 |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy EOC: 14-11 Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: Target capital structure |
94.
|
Jungle, Inc. has a target debt-equity ratio of 0.72. Its WACC is 11.5 percent and the tax rate is 34 percent. What is the cost of equity if the aftertax cost of debt is 5.5 percent?
WACC = 0.115 = (1/1.72) RE + (0.72/1.72)(0.055); RE = 15.82 percent
|
AACSB: Analytic
Blooms: Apply Difficulty: 1 Easy EOC: 14-14 Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
95.
|
Titan Mining Corporation has 14 million shares of common stock outstanding, 900,000 shares of 9 percent preferred stock outstanding and 220,000 ten percent semiannual bonds outstanding, par value $1,000 each. The common stock currently sells for $42 per share and has a beta of 1.15, the preferred stock currently sells for $80 per share, and the bonds have 17 years to maturity and sell for 91 percent of par. The market risk premium is 11.5 percent, T-bills are yielding 7.5 percent, and the firm's tax rate is 32 percent. What discount rate should the firm apply to a new project's cash flows if the project has the same risk as the firm's typical project?
MVD = 220,000 ($1,000) (0.91) = $200,200,000
MVE = 14,000,000 ($42) = $588,000,000 MVP = 900,000 ($80) = $72,000,000 V = $200,200,000 + $588,000,000 + $72,000,000 = $860,200,000 D/V = $200,200,000/$860,200,000 = 0.232737 E/V = $588,000,000/$860,200,000 = 0.683562 P/V = $72,000,000/$860,200,000 = 0.083701 RE = 0.075 + 1.15(0.115) = 0.20725 RP = $9/$80 = 0.1125 RD Aftertax = 0.1119514 (1 - 0.32) = 0.076127 WACC = 0.683562(0.20725) + 0.083701 (0.1125) + 0.232737 (0.076127) = 16.88 percent |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy EOC: 14-16 Learning Objective: 14-03 How to determine a firm's overall cost of capital. Section: 14.4 Topic: WACC |
96.
|
Suppose your company needs $14 million to build a new assembly line. Your target debt-equity ratio is 0.84. The flotation cost for new equity is 9.5 percent, but the floatation cost for debt is only 2.5 percent. What is the true cost of building the new assembly line after taking flotation costs into account?
fA = (1/1.84)(0.095) + (0.84/1.84) (0.025) = 0.063043
Amount raised = $14m/(1 - 0.063043) = $14.94 million |
AACSB: Analytic
Blooms: Analyze Difficulty: 1 Easy EOC: 14-18 Learning Objective: 14-04 How to correctly include flotation costs in capital budgeting projects. Section: 14.6 Topic: Flotation costs |
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