You are given the following information for Watson Power Co. Assume the company’

Question

You are given the following information for Watson Power Co. Assume the company’s tax rate is 40 percent. Debt: 10,000 7.1 percent coupon bonds outstanding, $1,000 par value, 25 years to maturity, selling for 107 percent of par; the bonds make semiannual payments. Common stock: 430,000 shares outstanding, selling for $61 per share; the beta is 1.04. Preferred stock: 21,000 shares of 5 percent preferred stock outstanding, currently selling for $81 per share. Market: 10 percent market risk premium and 5.1 percent risk-free rate.

Explanation / Answer

Cost of debt can be calculated using I/Y function on a calculator

N = 25 x 2 = 50, PMT = 7.1/2 = 3.55, PV = -107, FV = 100 => Compute I/Y = 3.26% (semi-annual)

Before-tax cost of debt = 2 x 3.26% = 6.53%

Cost of preferred stock = Dividend / Market Price = 5 / 81 = 6.17%

Cost of equity = Rf + beta x MRP

We know Rf = 5.1% and MRP = 10% but we don't know beta.

Related Questions

Navigate

• Browse (All)
• Browse Y
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.