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Alternative A Alternative B Alternative C

Par value of Bond $ 1,000 $ 1,000 $ 1,000


Premium on issue of bond $ 250 $ 50 $0
Discount on issue of bond $0 $0 $0
Flotation costs $ -30 $ -30 $ -30
Issue price of bond $ 1,220 $ 1,020 $ 970

Coupon rate 9% 7% 6%
Annual coupon amount $ 90 $ 70 $ 60

Years to maturity 16 5 7

Preta cost of debt 6.71% 6.52% 6.55%


Tax rate 40% 40% 40%
After tax cost of debt 4.03% 3.91% 3.93%
Alternative D
$ 1,000
$0
$ -75
$ -30
$ 895

5%
$ 50

10

6.46%
40%
3.87%
Requirement a

Par value $ 100


Dividend rate 12%
Annual dividend $ 12

Selling price $ 97.50


Flotation cost $ 2.50
Net proceeds per share $ 95.00

Cost of the preferred stock Annual dividend/Net proceeds 12.63%

Requirement b

Par value $ 100


Dividend rate 10%
Annual dividend $ 10

Net proceeds per share $ 90.00

Cost of the preferred stock Annual dividend/Net proceeds 11.11%


Requirement a

Market return 11%


Risk free rate 6%
Beta 1.2
Risk premium (Market return - Risk free rate)*Beta 6%

Requirement b

Risk free rate 6%


Risk premium 6%

Required return Risk free rate + Risk premium 12%

Requirement c

Cost of common stock equity using the CAPM. 12%


Requirement a

Dividend for 2015 (D4) $ 3.10


Dividend for 2011 (D1) $ 2.12
Number of years (n) 4

Total growth in 4 years (D4/D1)^(1/n) 1.0997


Growth rate Total growth - 1 9.97%

Requirement b

Net proceeds $ 52.00

Requirement c

Next dividend $ 3.40


Current price $ 57.50
Growth rate 9.97%

Cost of retained earnings (Next dividend/Current price)+Growth rate 15.88%

Requirement d

Next dividend $ 3.40


Net proceeds $ 52.00
Growth rate 9.97%

Cost of new common stock (Next dividend/Net proceeds)+Growth rate 16.50%


Requirement a

Par value of Bond


Issue price of bond
Flotation costs
Net proceeds on issue of bond

Coupon rate
Annual coupon amount

Years to maturity

Preta cost of debt


Tax rate
After tax cost of debt

Requirement b

Par value per share


Sale price per share
Underwriter's fee
Net proceeds on issue of share

Dividend rate
Dividend amount

Cost of preferred stock (Dividend amount/Net proceeds)

Requirement c

Dividend for 2015 (D4)


Dividend for 2011 (D1)
Number of years (n)

Total growth in 4 years (D4/D1)^(1/n)


Growth rate Total growth - 1

Next dividend

Selling price per share


Underpricing of share
Flotation costs
Net proceeds

Cost of new common stock (Next dividend/Net proceeds)+Growth rate


Requirement d

Component of capital Weights


Debt 40%
Preferred stock 10%
Common stock 50%

Weighted average cost of capital 12.19%


$ 1,000
$ 980
$ -30
$ 950

10%
$ 100

10

10.84%
40%
6.51%

$ 100
$ 65
$2
$ 63

8%
$ 8.00

12.70%

$ 3.75
$ 2.85
4

1.0710
7.10%

$4

$ 50
$5
$3
$ 42

16.63%
Cost of capital Weighted cost
6.51% 2.60%
12.70% 1.27%
16.63% 8.31%
12.19%

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