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The following question requires the determination of a firm's decision to use its cost of capital structure to make various investment decisions for the firm and its shareholders.
Show all of your work.
Robinson-Winston, Inc. (RWI) has asked you to estimate the cost of capital for the firm. The company has 4 million shares and 125,000 bonds of par value $1,000 outstanding. In addition, it has $20 million in short-term debt from its bank. The target capital structure ratio is 55 percent equity, 40 percent long-term debt, and 5 percent short-term debt. The current capital structure has temporarily moved slightly away from the target ratio.
The company’s shares currently trade at $50 with a beta of 1.03. The book value of the shares is $16. The annual coupon rate of the bonds is 9 percent; they trade at 108 percent of par, and they will mature in ten years. Interest on the short-term debt is 3.5 percent. The current yield on ten-year government bonds is 5.2 percent. The market risk premium is 5 percent. The company tax rate applicable is expected to be 35 percent.
Based on the data above, calculate the cost of capital for the company.
Rockne, Inc., has outstanding bonds that will mature in six years and pay an 8 percent coupon semiannually. If you paid $1,142.42 today and your required rate of return was 4.64 percent. Did you pay the right price for the bond?
Junkman's Warehouse and Storage Company has an unusual bond outstanding with exactly 10 years remaining until maturity and a face value of $1,000. The bond is unusual because the annual coupon payments remaining are $50 for the next five years and $1..
How would each of the following scenarios affect a firm's cost of debt Rd(1-T), its cost of equity, Rs, and its WACC? Indicate with a plus(+), a minus (-) or a zero (0) if the factor would raise, would lower or would have an undeterminable effect on ..
Holdup Bank has an issue of preferred stock with a $8 stated dividend that just sold for $95 per share. What is the bank's cost of preferred stock? The price of any asset is the present value of future cash flows. The preferred stock has a constant d..
A venture with 2 million total common shares – 1.4 million owned by the entrepreneur and 0.6 million by an angel investor – had a post-money value of $8 million after its last (and only) round of outside financing. If there is no ratchet agreement, w..
The annual continuously compounded 6-month and 1-year zero rates are 3% and 4%, respectively. A 1.5-year bond that pays coupons of $2 every six months currently sells for $98.52. What is the 1.5-year zero rate with continuous compounding? Show the ca..
Which of the following is not considered a difficulty with regards to the CAPM?
Williamson Inc. has a debt-to-equity ratio of 2.5. The firm’s weighted average cost of capital (WACC) is 14%, and its pretax cost of debt is 8%. The corporate tax rate is 40%. a) At its present capital structure, what is Williamson Inc.’s stockholder..
The price of a Treasury strip note or bond can be found using Appendix C toward the back of the text. It is simply the present value factor from the table times the maturity (par) value of the Treasury strip. What is the price (present value) of the ..
A sector fund specializing in commercial bank stocks had average daily assets of $8.4 billion during the year. This fund sold $4.36 billion worth of stock during the year, and its turnover ratio was .50. How much stock did this mutual fund purchase d..
During the past few years, Swanson Company has retained, on the average, 70 percent of its earnings in the business. The future retention rate is expected to remain at 70 percent of earnings, and long-run earnings growth is expected to be 10 percent...
Suppose the call money rate is 6.8 percent, and you pay a spread of 1.9 percent over that. You buy 1,100 shares at $55 per share with an initial margin of 40 percent. One year later, the stock is selling for $61 per share, and you close out your posi..
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