Great Corporation has the following capital situation. Debt: One thousand bonds
ID: 2696424 • Letter: G
Question
Great Corporation has the following capital situation.
Debt: One thousand bonds were issued five years ago at a coupon rate of 10%. They had 25-year terms and $1,000 face values. They are now selling to yield 9%. The tax rate is 40%
Preferred stock: Two thousand shares of preferred are outstanding, each of which pays an annual dividend of $7.50. They originally sold to yield 15% of their $50 face value. They're now selling to yield 10%.
Equity: Great Corp has 120,000 shares of common stock outstanding, currently selling at $14.48 per share. The risk free rate is 3%, market rate of return is 10% and the Beta is 1.2.
Explanation / Answer
Answer:First, calculate the total market value of each source.
Debt: The price of Great corporation's bonds, assuming semi-annual interest payments:
Pb=PMT[PVFAk,n]+FV[PVFk,n]
=$50[PVFA4.5%,40]+1000[PVF4.5%,40]
=$920.079+$171.92869
=$1092.007691
Because there are 1,000 bonds outstanding, the market value of the debt is $1,092.007691 x 1,000 = $1092007.691
Preferred shares: Each preferred share is worth $7.50/0.10 = $75. Because there are 2,000 shares outstanding, their total market value is $75 x 2,000 = $150000.
Common shares: The total market value of the firm's common shares is $14.48 x 120,000 shares = $1737600.
Next, calculate the portion of the the firm's total capital that each source represents:
Ke=3%+1.2(10%-3%)
=11.4%
Debt $1092007.691 36.65% 5.4% 1.9791% Preferred share $150000 5.0342197% 10% 0.50342197% Equity $1737600 58.32% 11.4% 6.64848% Total 2979607.691 100% 9.13100%Related Questions
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