Currently bonds with a similar credit rating and maturity as the firm\'s outstan

Question

Currently bonds with a similar credit rating and maturity as the firm's outstanding debt are selling to yield 8.33 percent while the borrowing firm's corporate tax rate is 34 percent. Common stock for a firm that paid a $1.02 dividend last year. The dividends are expected to grow at a rate of 5.5 percent per year into the foreseeable future. The price of this stock is new $24.08. A bond that has a $1,000 par value and a coupon interest rate of 11.9 percent with interest paid semiannually. A new issue would sell for $1,149 per bond and mature in 20 years. The firm's tax rate is 34 percent. A preferred stock paying a dividend of 7.9 percent on a $93 par value. If a new issue is offered, the shares would sell for $85.21 per share. The after-tax cost of debt debt for the firm is %. The cost of common equity fort the firm is %. The after-tax cost of debt for the firm is %. The cost of preferred stock for the firm is %.

Explanation / Answer

a. After tax cost of debt = 8.33% (1-0.34)

= 5.50%

b. Cost of common equity = [D0(1+g)/P0] + g

= [1.02(1+0.055)/24.08] + 0.055

= 9.97%

c. Cost of debt = 1000x11.90%(1-0.34)/1149 x 100

= 6.84%

d. Cost of prefferd stock = 93x7.90%/85.21 x 100

= 8.62%

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