a)Dividends. b)RE available for the year, given the dividends policy. c)Weighted

Question

a)Dividends.

b)RE available for the year, given the dividends policy.

c)Weighted Average Cost of Capital with lowest component costs.

d)Weighted Average Cost of Capital with higher debt cost, but lowest other costs.

e)Weighted Average Cost of Capital with highest component costs.

Income tax rate Capital Gains Tax Rate Assumed long-term sustainable growth rate 40% 15% 5% WACC facts: Barking Dog Corp Cost of Capital Given: Optimal Capital Structure 20% Debt 10% Preferred Equity 70% Common Equity Net income for the coming year: $4,000,000 Use Retained Earnings for common equity until all but $1.5 M are exhausted Dividends policy is to distribute 60% of NI as dividends Currently 0 retained earnings Borrowing Limits and Interest Rates: ount Borrowed Interest Rate 0 to $1,500,000 6% 9% over $1,5000,000 Use the average of CAPM and Dividends growth model for TRE S30 $2 Preferred Stock price: $66 $6 5% 10% 40% Common Stock price Do: for the coming year for this year Float %; Tax rate: For CAPM: of the market price 8.5% 3.5% 1.05 RF

Explanation / Answer

Answer:

1. Dividend Payout Ratio :    60% = $2,400,000. (60% of NI).

   Retained Earnings:    40% = $1,600,000 (NI-Dividend Payout).

2. CAPM: Ke = Rf+B*(Rm-Rf) = 0.035+1.05*(0.085-0.035) = 8.75%.

   Dividend Model:    ( (Div1)/P0*(1-F))+g

   Div1 = Div0*(1+g) = 6*(1+5%) = 6.3

Ke= (6.3/66*0.9)+0.05 = 15.6%

Preferred Equity Rate = 2/30 = 6.67%

3. WACC (lowest of all the values) = after tax debt rate*Debt%+preferred equity rate*preferred equity%+cost of equity*common equity%

WACC (lowest value) = 0.20*0.036+0.10*0.0667+0.7*0.0875 = 7.5%.

4. WACC (Higher debt and Lowest all other) = 0.20*0.054+0.10*0.0667+0.7*0.0875 = 7.87%

5. WACC (Higher all values) = 0.20*0.054+0.10*0.0667+0.7*0.156 = 12.67%

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