Compute the cost of capital for the firm for the following: a. A bond that has a

Question

Compute the cost of capital for the firm for the following:

a. A bond that has a $1000 par value (face value) and a contract or coupon interest rate of 10.4%. Interest payments ar $52.00 and are paid semiannually. The bonds have a current market value of $1,122 and will mature in 10 years. The firms marginal tax rate is 34%.

B. A new common stock issue that paid a $1,77 dividend last year. The firms dividends are expected to continue to grow at 6.2% per year, forever. The price of the firm's common stock is now $27.56.

C. A preferred stock that sells for $145, pays a dividend of 8.4% and has a $100 par value.

D. A bond selling to yeild 11.4% where the firm's tax rate is 34%

Explanation / Answer

a. A bond that has a $1000 par value (face value) and a contract or coupon interest rate of 10.4%. Interest payments ar $52.00 and are paid semiannually. The bonds have a current market value of $1,122 and will mature in 10 years. The firms marginal tax rate is 34%.

Before Tax Cost of Debt = rate(nper,pmt,pv,fv)*2

Before Tax Cost of Debt = rate(20,52,-1122,1000)*2

Before Tax Cost of Debt = 8.56%

After Tax Cost of Debt = Before Tax Cost of Debt *(1-tax rate)

After Tax Cost of Debt = 8.56*(1-34%)

After Tax Cost of Debt = 5.65%

B. A new common stock issue that paid a $1,77 dividend last year. The firms dividends are expected to continue to grow at 6.2% per year, forever. The price of the firm's common stock is now $27.56.

Cost of Common Stock = Expected Dividend/Current Stock Value + Growth rate

Cost of Common Stock = 1.77*(1+6.2%)/27.56 + 6.2%

Cost of Common Stock = 13.02%

C. A preferred stock that sells for $145, pays a dividend of 8.4% and has a $100 par value.

Cost of Preferred Stock = 8.40/145

Cost of Preferred Stock = 5.79%

D. A bond selling to yeild 11.4% where the firm's tax rate is 34%

Before Tax Cost of Debt = 11.40%

After Tax Cost of Debt = Before Tax Cost of Debt *(1-tax rate)

After Tax Cost of Debt = 11.40*(1-34%)

After Tax Cost of Debt = 7.52%

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