Reference no: EM132415624

Problem:

Recall that Ke = Kj. with an efficient market. Neaptide Ships Ltd. Financial statements report the following capital structure: 

It's somewhat risky shares have a beta of 1.70 in a market that expects the market portfolio to return 7.5% in the next year. Treasury bills currently yield 2%. 

A) What is the expected rate of return for Neaptide's common shares?

Bonds $100,000,000 Preferreds 25,000,000 Common stock 25,000,000 Retained earnings 60,000,000 $216,250,000 

The bonds have an annual coupon payable at the rate of 7% and mature in 12 years. A new issue of bonds suggests a current market yield of 5%. Any new issue of bonds will be purchased by the underwriter at $980 each. 

The preferreds of which there are 1,250,000 outstanding currently trade at $25. The dividend is currently set at $1.10. Flotation expenses on a new issue will be 4%. 

There are currently 10 million common shares outstanding. The shares will pay an annual dividend of $0.70 over the next year and the dividend growth rate for Neaptide is estimated to be 5.0% for the foreseeable future. Shares are priced efficiently based on the CAPM. Any new issue of common shares will require flotation expenses of 6%. 

At the current time Neaptide's cash flow from its operations not sufficient for any capital projects. Neaptide's tax rate is 28 percent. 

B) Calculate the Neaptide's WACC based on market values.