You have following information about the company R.S. Green: •The company has 25

Question

You have following information about the company R.S. Green: •The company has 250,000 shares of common stock outstanding at a market price of $28 a share. Next year’s annual dividend is expected to be $1.55 a share. The dividend growth rate is 2%. . •The company also has 7,500 bonds outstanding with a face value of $1000 per bond. The bonds carry a 7% coupon, pay interest semiannually, and mature in 7.5 years. The bonds are selling at 98% of face value. . •The corporate tax rate for the company is 34 percent. . 1). What is WACC for the company? 2). The company want to raise 5 million in capital, but still maintain its current capital structure. Given that the flotation cost for common stock is 5%, and the floatation cost for bond is 3%, what is the true amount of capital that the company has to raise? 3). The company will invest newly raised capital in a project, which will generate annual cash inflows of 1.2 million for the next 5 years. What are the NPVs of the project before and after adjusted for floatation cost?

Explanation / Answer

cost of equity = (expected dividend/ market price)+ growth rate

= (1.55/28)+.02 = 7.534%

cost of debt = interest + (Rv- MV)/ years to maturity   / RV+ MV / 2

= 70 +(1000-980)/7.5 / 1000+980/2=.073*100 = 7.34%

after tax cost of debt = 7.34*(1-.34) = 4.84%

cost market value of debt 7350000 0.512195 4.84 2.479024 market value of equity 7000000 0.487805 7.53 3.673171 total value of firm 14350000 weighted average cost of capital 6.152195 percent amount required 5000000 debt 2560976 equity 2439024 floation cost of debt 76829.27 flotation cost of equity 121951.2 total flotation cost 198780.5 total amount required 5198780 cost of project 5000000 year cash inflow present value@6.15% present value of cash flow 1 1200000 0.942063 1130476 2 1200000 0.887483 1064980 3 1200000 0.836065 1003278 4 1200000 0.787626 945151.1 5 1200000 0.741993 890392 present value of cash flow 5034276 cash out flow 5000000 npv 34276.28 present value of cash flow 5034276 cash out flow after adjustment of flotation cost 5198780 npv -164504

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