Fundamentals Of Corporate Finance, 9th Edition
9th Edition
ISBN: 9781260052220
Author: Richard Brealey; Stewart Myers; Alan Marcus
Publisher: McGraw-Hill Education
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Question
Chapter 13, Problem 4QP
a)
Summary Introduction
To compute: The
b)
Summary Introduction
To compute: The weighted average cost of capital of company B.
c)
Summary Introduction
To discuss: Whether the project should be accepted or rejected.
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Students have asked these similar questions
Whispering Pines Inc. is all-equity-financed. The expected rate of return on the company's shares is 9.65%.
a. What is the opportunity cost of capital for an average-risk Whispering Pines investment? (Enter your answer as a percent rounded
to 2 decimal places.)
Opportunity cost of capital
%
b. Suppose the company issues debt, repurchases shares, and moves to a 24% debt-to-value ratio (D/ V = 0.24). What will be the
company's weighted-average cost of capital at the new capital structure? The borrowing rate is 5.75% and the tax rate is 21%. (Do not
round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)
Weighted-average cost of capital
6. Company cost of capital (S9.2) Nero Violins has the following capital structure:
Total Market Value
($ millions)
$100
Security
Debt
Preferred stock
Common stock
Beta
0
0.20
1.20
40
299
a. What is the firm's asset beta? (Hint: What is the beta of a portfolio of all the firm's securities?)
b. Assume that the CAPM is correct. What discount rate should Nero set for investments that expand the scale of its
operations without changing its asset beta? Assume a risk-free interest rate of 5% and a market risk premium of 6%. Ignore
taxes.
The following were gathered for estimating the cost of equity of KKK Corporation: Return on Treasury Bonds = 4%; Return on the Market = 10%; Return on KKK Bonds = 6%. Upon analysis, you determined that the beta of KKK shares relating to the market return is 1.2 while a risk premium of 4% should be given to KKK's investors over its creditors.
How much is the cost of equity using the capital asset pricing model?
Chapter 13 Solutions
Fundamentals Of Corporate Finance, 9th Edition
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Similar questions
- You have been tasked with the responsibility of calculating the WACC for Meeks Investments Limited and Hall Developments Limited. The risk-free rate is currently 4% and the market risk premium is 6.5%. The details for both companies are presented in the table below. The tax rate is 25%. Meeks Investments Limited Hall Developments Limited Value of Common Equity $1,500,000 $3,000,000 Beta 2.18 1.52 Value of Preferred Equity $1,000,000 $500,000 Preferred Dividends $4.50 $7.60 Price of Preferred Stock $60 $80 Price of Bonds $970 $1,160 Coupon Rate (Paid semi-annually) 8% 11% Par Value of Bonds $1,000 $1,000 Years to Maturity 8 12 Value of Debt $2,500,000 $1,500,000 Use the information in the table above to calculate the WACC for both companies.arrow_forwardUse the following information to compute the weighted average cost of capital (WACC) of GoGo Inc. ▪ Debt information: The beta of GoGo Inc. stock is 1.5 . Risk-free rate is 4% • Market return is 15% • GoGo's capital structure is 65% equity and 35% debt. The tax rate is 21%. 14.62% Bonds will mature in 9 years. The maturity value is $1,000. GoGo's WACC is.. 15.47% The coupon rate is 8%, with semiannual payments. The current bond price is $1,015. 12.20% 13.32%arrow_forwardYou have been tasked with the responsibility of calculating the WACC for Meeks Investments Limited and Hall Developments Limited. The risk free rateis currently 4% and the market risk premium is 6.5%. The details for both companies are presented in the table below. the tax rate is 25%. MeeksInvestments Limited Hall Developments Limited Value of Common Equity $1,500,000 $3,000,000 Beta 2.18 1.52 Value of preferred Equity $1,000,000 $500,000 Preffered Dividends 4.50 $7.60 Priceof Preffered Stock $60 $80 Price of Bonds $970 $1,160 Coupon Rate (Paid semi- annually) 8% 11% par value of bonds $1,000 $1,000 years to Maturity 8 12 Value of Debt $2,500,000 $1,500,000 Use the information in the table above to calculate the WACC for both companiesarrow_forward
- MM Ferguson's market value of common stock is $35.4 million, and its risk-free debt is $13.1 million in market value. The beta of the company's common stock is 1.55, and the market return is 10.2 percent. If the Treasury bill rate is 1.7 percent, what is the company's cost of capital? (Ignore taxes) A. 10.66% B. 11.32% C. 12.49% D. 13.31% E. 13.92%arrow_forwardYou want to estimate the Weighted Average Cost of Capital (WACC) for Levi Inc. The company’s tax rate is 21% and it has the equity beta of 1.24. Its debt value is $2,304 million and the equity market value is $70,080 million. The company’s interest expense is $83 million. Assume that the risk-free rate is 5% and the market return is 12%. Based on the information, compute the WACC for Leviarrow_forwardShares of the Pacific Electric Company (PEC) have an estimated Beta of 1.10. PEC funds its assets with 50 percent debt at an average after-tax cost of debt of 6 percent. The excess return of the market portfolio is 5 percent and the risk-free rate is 3 percent. Question A. what is PEC's estimated cost of equity according to the CAPM? Question B. what is PEC's estimated weighted average cost of capital?arrow_forward
- A firm is firanced with market values of $295 million in nsk-free debt and $575 million in equity. The firm's asset beta is 0.93. Assume a risk-free rate of 2.5%, a market risk-premium of 6.2% and a tax rate of 25%. Assume the firm's debt beta is 0. What is the firms after- tax weighted average cost of capital? (answer to the fourth decimal place)arrow_forwardQ2. Suppose you are the chief financial officer of Toktik Co. and you are trying to determine the optimal capital structure for the company using the cost of capital approach. On the day of this exam, you have collected the following company and market data: The beta of the company is 2.6; • 10-year Treasury bond rate is 1.6% and the current market equity risk premium is 6.9%; • The company's current bond rating is BB by Standard & Poor's; • The firm currently has 5.2 billion shares outstanding with share price at $120 and the firm's market value of debt is $264 billion • The company's marginal tax rate is 35%. Also you are given the following table concerning the latest information on bond rating and the corresponding default spread: Default spread Rating AAA 0.69% AA 0.85% A+ 1.07% A 1.18% А- 1.33% BBB 1.71% BB+ 2.31% BB 2.77% B+ 4.05% 4.86% В- 5.94% ССС 9.46% CC 9.97% 13.09% D 17.44% Required: a) Briefly explain, by referencing relevant capital structure theories, the mechanisms…arrow_forwardThe CFO of Lenox Industries hired you as a consultant to help estimate its cost of capital. You have obtained the following data: (1) rd = yield on the firm’s bonds = 7.00% and the risk premium over its own debt cost = 4.00%. (2) rRF = 5.00%, RPM = 6.00%, and b = 1.05. (3) D1 = $1.20, P0 = $35.00, and g = 8.00% (constant). You were asked to estimate the cost of equity based on the three most commonly used methods and then to indicate the difference between the highest and lowest of these estimates. What is that difference? 0.43% 0.49% 0.48% 0.38% 0.37%arrow_forward
- The common stock of Buildwell Conservation & Construction, Inc. (BCCI), has a beta of .8. The Treasury bill rate is 4% and the market risk premium is estimated at 7%. BCCI’s capital structure is 30% debt paying a 5% interest rate, and 70% equity. What is BCCI’s cost of equity capital and its WACC? Buildwell’s tax rate is 35%. Should BCCI accept a project with an IRR of 12%? Explain why.arrow_forwardReactive Power Generation has the following capital structure. Its corporate tax rate is 21%. Required Rate of Return Security Market Value Debt $ 30 million 4% Preferred stock 30 million Common stock 40 million 10 What is its WACC? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.) WACC %arrow_forwardElliott’s Cross Country Transportation Services has a capital structure with 25% debt at a 9% interest rate. Its beta is 1.6, the risk-free rate is 4%, and the market risk premium is 7%. Elliott’s combined federal-plus-state tax rate is 25%. a. What is Elliott’s cost of equity? b. What is its weighted average cost of capital? c. What is its unlevered cost of equity?arrow_forward
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