Calcuation of individual costs and WACC Please show Work. Calculation of individ

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Calcuation of individual costs and WACC
Please show Work.

Calculation of individual costs and WACC Dillon Labs has asked its financial manager to measure the cost of each specific type of capital as well as plusminus the weighted average cost of capital. The weighted average cost is to be measured by using the following weights: 45% long-term debt 25% preferred stock, and 30% common stock equity (retained earnings, new common stock, or both). The firm's tax rate is 30%. Debt The firm can sell for $955 a 14-year, $ 1,000-par-value bond paying annual interest at a 9.00% coupon rate. A flotation cost of 2% of the par value is required in addition to the discount of $45 per bond. Preferred stock 8.50% (annual dividend) preferred stock having a par value of $100 can be sold for $75. An additional fee of $6 per share must be paid to the underwriters. Common stock The firm's common stock is currently selling for $90 per share. The dividend expected to be paid at the end of the coming year (2016) is $3.59. Its dividend payments, which have been approximately 70% of earnings per share in the past 5 years, were as shown in the following table: IE7 It is expected that to attract buyers, new common stock must be underpriced $8 per share, and the firm must also pay $3.50 per share in flotation costs. Dividend payments are expected to continue at 70% of earnings. (Assume that r = rg.) The after-tax cost of debt using the bond's yield to maturity (YTM) is %. (Round to two decimal places.) The cost of preferred stock is %. (Round to two decimal places.) The cost of retained earnings is '%. (Round to two decimal places.) The cost of new common stock is %. (Round to two decimal places.) Using the cost of retained earnings, the firm's WACC is %. (Round to tw Using the cost of new common stock, the firm's WACC is %. (Round to two Q Print J Q Done J (Click on the icon located on the top-right comer of the data table below in order to copy its contents into a spreadsheet.) Year Dividend 2015 $3.41 2014 $3.23 2013 $3.06 2012 $2.90 2011 $2.75

Explanation / Answer

Cost of debt Net proceeds of the bond 1000-2%*1000- 45=    935 Before tax cost of debt is the cost(rate) that equates this value at 9% to the future interest payments + receipt of face value at maturity. so. We use the formula , to calculate PV and solve for r, PV=(Coupon amt.*((1-(1+r)^-n)/r))+(Face value/(1+r)^n) 935=(90*((1-(1+r)^-14)/r))+(1000/(1+r)^14) r= 9.88 After tax cost of debt= 9.88(1-0.30)= 6.92% Cost of Preferred stock is Annual dividend/ Price- underwriter fee 8.5/(75-6)= 12.32% Calculation of Dividend Growth Rate 2011 2.75 2012 2.9 5.45 2013 3.06 5.52 2014 3.23 5.56 2015 3.41 5.57 2016 3.59 5.28 Total 27.38 Av. Growth rate 27.38/5 5.476 Cost of Retained Earnings (Next-year's dividend/Current market price )+ Av. Growth rate (3.59/90)+0.05476 0.094648889 ie. 9.47% Cost of new equity (Next yr's dividend/(Market price- Flotation costs))+ growth rate (3.59/(82-3.50)) +0.05476 0.100492484 ie. 10.05% WACC using Cost of Retained Earnings Type of capital Weight to Total Cost Wt* Cost Long-term Debt 0.45 0.0692 0.03114 Preferred stock 0.25 0.1232 0.0308 Retained Earnings 0.3 0.0947 0.02841 Total 1 0.09035                                           WACC using Cost of Retained Earnings   =           9.04% WACC using Cost of New Equity Type of capital Weight to Total Cost Wt* Cost Long-term Debt 0.45 0.0692 0.03114 Preferred stock 0.25 0.1232 0.0308 Retained Earnings 0.3 0.1005 0.03015 Total 1 0.09209                                           WACC using Cost of New Equity   =           9.21%

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