# Finance Questions: Cost of Preferred Stock with Flotation Costs

Cost of Preferred Stock with Flotation Costs

Burnwood Tech plans to issue some $60 par preferred stock with a 6% dividend. A similar stock is selling on the market for $73. Burnwood must pay flotation costs of 7% of the issue price. What is the cost of the preferred stock? Round your answer to two decimal places.

WACC

David Ortiz Motors has a target capital structure of 45% debt and 55% equity. The yield to maturity on the company’s outstanding bonds is 11%, and the company’s tax rate is 40%. Ortiz’s CFO has calculated the company’s WACC as 9.53%. What is the company’s cost of equity capital? Round your answer to two decimal places.

Bond Yield and After-Tax Cost of Debt

A company’s 8% coupon rate, semiannual payment, $1,000 par value bond that matures in 20 years sells at a price of $678.22. The company’s federal-plus-state tax rate is 30%. 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.

Cost of Equity

Radon Homes’s current EPS is $6.43. It was $3.60 5 years ago. The company pays out 40% of its earnings as dividends, and the stock sells for $34.

1. Calculate the historical growth rate in earnings. (Hint: This is a 5-year growth period.) Round your answer to two decimal places.

%

2. Calculate the next expected dividend per share, D1 (Hint: D0 = 0.40($6.43) = $2.57). Assume that the past growth rate will continue. Round your answer to the nearest cent.

$

3. What is Radon’s cost of equity, rs? Round your answer to two decimal places.

%

Calculation of g and EPS

Spencer Supplies’s stock is currently selling for $60 a share. The firm is expected to earn $5.70 per share this year and to pay a year-end dividend of $2.90.

1. If investors require a 9.5% return, what rate of growth must be expected for Spencer? Round your answer to two decimal places.

%

2. If Spencer reinvests earnings in projects with average returns equal to the stock’s expected rate of return, then what will be next year’s EPS? (Hint: g = ROE × Retention ratio.) Round your answer to the nearest cent.

$

The Cost of Equity and Flotation Costs

Messman Manufacturing will issue common stock to the public for $25. The expected dividend and growth in dividends are $2.75 per share and 6%, respectively. If the flotation cost is 8% of the issue’s gross proceeds, what is the cost of external equity, re? Round your answer to two decimal places.

The Cost of Equity and Flotation Costs

Suppose a company will issue new 25-year debt with a par value of $1,000 and a coupon rate of 8%, paid annually. The tax rate is 40%. If the flotation cost is 3% of the issue proceeds, then what is the after-tax cost of debt? Disregard the tax shield from the amortization of flotation costs. Round your answer to two decimal places.

WACC Estimation

On January 1, the total market value of the Tysseland Company was $60 million. During the year, the company plans to raise and invest $25 million in new projects. The firm’s present market value capital structure, shown below, is considered to be optimal. Assume that there is no short-term debt.

Debt $30,000,000

Common equity 30,000,000

Total capital $60,000,000

New bonds will have an 6% coupon rate, and they will be sold at par. Common stock is currently selling at $30 a share. The stockholders’ required rate of return is estimated to be 12%, consisting of a dividend yield of 4% and an expected constant growth rate of 8%. (The next expected dividend is $1.20, so $1.20/$30 = 4%.) The marginal corporate tax rate is 35%.

1. In order to maintain the present capital structure, how much of the new investment must be financed by common equity? Enter your answer in dollars. For example, $1.2 million should be entered as $1200000.

$

2. Assuming there is sufficient cash flow such that Tysseland can maintain its target capital structure without issuing additional shares of equity, what is its WACC? Round your answer to two decimal places.

Market Value Capital Structure

Suppose the Schoof Company has this book value balance sheet:

Current assets $30,000,000 Current liabilities $10,000,000

Fixed assets 50,000,000 Long-term debt 30,000,000

Common stock

(1 million shares) 1,000,000

Retained earnings 39,000,000

Total assets $80,000,000 Total claims $80,000,000

The current liabilities consist entirely of notes payable to banks, and the interest rate on this debt is 9%, the same as the rate on new bank loans. These bank loans are not used for seasonal financing but instead are part of the company’s permanent capital structure. The long-term debt consists of 30,000 bonds, each with a par value of $1,000, an annual coupon interest rate of 8%, and a 15-year maturity. The going rate of interest on new long-term debt, rd, is 10%, and this is the present yield to maturity on the bonds. The common stock sells at a price of $68 per share. Calculate the firm’s market value capital structure. Round your answers to two decimal places.

Short-term debt $

%

Long-term debt $

%

Common equity $

%

Total capital $

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