1. A company\'s 7% coupon rate, semiannual payment, $1,000 par value bond that m

Question

1. A company's 7% coupon rate, semiannual payment, $1,000 par value bond that matures in 25 years sells at a price of $623.85. The company's federal-plus-state tax rate is 40%. What is the firm's after-tax component cost of debt for purposes of calculating the WACC? (Hint: Base your answer on the nominal rate.) Round your answer to two decimal places.

2.The earnings, dividends, and common stock price of Shelby Inc. are expected to grow at 6% per year in the future. Shelby's common stock sells for $24.25 per share, its last dividend was $2.50, and and the company will pay a dividend of $2.65 at the end of the current year.

Explanation / Answer

1) 623.85 = 35 * PVIFA(r%,50) + 1000 * PVIF(r%,50)

r = 5.83%

yTM = 11.66%

after tax cost of debt = 11.66% * (1-0.40) = 6.996%

2) cost of equity = 2.65/24.25 + 6% = 16.93%

cost of equity CAPM approach = 6% + 2.2 * (13%-6%) = 21.4%

rs = 11% + (3+5)/2 % = 15%

average cost of equity = (16.93% + 21.4% + 15%)/3 =17.78%

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