Assumethat you have been hired as a consultant by CGT, a major producerof chemic

Question

Assumethat you have been hired as a consultant by CGT, a major producerof chemicals and plastics, including plastic grocery bags,styrofoam cups, and fertilizers, to estimate the firm's weightedaverage cost of capital. The balance sheet and some otherinformation are provided below.
Assets

Currentassets

$38,000,000

Net plant,property, and equipment

$101,000,000

Totalassets

$139,000,000

Liabilities and Equity

Accountspayable

$10,000,000

Accruals

$9,000,000

Currentliabilities

$19,000,000

Long-termdebt (40,000 bonds, $1,000 par value)

$40,000,000

Totalliabilities

$59,000,000

Commonstock (10,000,000 shares)

$30,000,000

Retainedearnings

$50,000,000

Totalshareholders' equity

$80,000,000

Totalliabilities and shareholders' equity

$139,000,000

13.60%

15.64%

16.73%

11.56%

10.20%

Currentassets

$38,000,000

Net plant,property, and equipment

$101,000,000

Totalassets

$139,000,000

Explanation / Answer

Calculating Cost of Equity(RE): Based on the CAPM,Cost of Equity (RE) = Rf +ß (RM - Rf) Beta of the Stock (ß) =1.35 Risk-free rate on 20years Treasry bond (Rf) = 5.50% Required Return on theStock Market (RM) = 11.50% Cost of Equity(RE) = 5.50% + 1.35 (11.50% -5.50%)                             = 0.055 + 1.35 (0.06)                             = 0.136 (or) 13.60% Cost of Equity(RE) = 13.60% Calculating Cost of Equity(RE): Based on the CAPM,Cost of Equity (RE) = Rf +ß (RM - Rf) Beta of the Stock (ß) =1.35 Risk-free rate on 20years Treasry bond (Rf) = 5.50% Required Return on theStock Market (RM) = 11.50% Cost of Equity(RE) = 5.50% + 1.35 (11.50% -5.50%)                             = 0.055 + 1.35 (0.06)                             = 0.136 (or) 13.60% Cost of Equity(RE) = 13.60%

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