Save Score: 0 of 5 pts 7 of 8 (4 complete) HW Score: 43.33%, 13 of P14-3 (simila

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Save Score: 0 of 5 pts 7 of 8 (4 complete) HW Score: 43.33%, 13 of P14-3 (similar to) Question Help * (Individual or component costs of capital) Compute the cost of capital for the firm for the following a. A bond that has a $1,000 par value (face value) and a contract or coupon interest rate 11.7 percent Interest payments are $58.50 and are paid semiannually. The bonds have a current market value of $1,127 and will mature in 10 years. The firm's marginal tax rate is 34 percet. b. A new common stock issue that paid a $1.77 dividend last year. The firm's dividends are expected to continue to grow at 6.7 percent per year, forever. The price of the firm's common stock is now $27.34 c. A preferred stock that sells for $146, pays a dividend of 9 1 percent, and has a $100 par value. d. A bond selling to yield 11.6 percent where the firm's tax rate is 34 percent. a. The after-tax cost of debt is [ ]%. (Round to two decimal places.) r box and then click Check An our answer in the a 3

Explanation / Answer

Answer a.

Face Value = $1,000
Current Price = $1,127
Semiannual Coupon = $58.50
Semiannual Period to Maturity = 20

Let semiannual YTM be i%

$1,127 = $58.50 * PVIFA(i%, 20) + $1,000 * PVIF(i%, 20)

Using financial calculator:
N = 20
PV = -1127
PMT = 58.50
FV = 1000

I = 4.844%

Semiannual YTM = 4.844%
Annual YTM = 2 * 4.844%
Annual YTM = 9.688%

Before-tax Cost of Debt = 9.688%
After-tax Cost of Debt = 9.688% * (1 - 0.34)
After-tax Cost of Debt = 6.39%

Answer b.

Cost of Equity = D1 / P0 + g
Expected Dividend (D1) = $1.77 + ($1.77 * 6.7%) = $1.88859
Current Price (P0) = $27.34
Growth Rate (g) = 6.7%

Cost of Equity = 1.88859 / 27.34 + 0.067
Cost of Equity = 0.06908 + 0.067
Cost of Equity = 0.13608 or 13.61%

Answer c.

Cost of Preferred Stock = Annual Dividend / Current Price
Annual Dividend = $100 * 9.1% = $9.10
Cost of Preferred Stock = 9.10 / 146
Cost of Preferred Stock = 0.06233 or 6.23%

Answer d.

After Cost of Debt = 11.60% * (1 – 0.34)
After Cost of Debt = 7.66%

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