Sacramento Corporation has 1 million common shares outstanding; the current pric

Question

Sacramento Corporation has 1 million common shares outstanding; the current price per share is $47.50. The company's beta is 1.2. Sacramento also has 100,000 preferred shares outstanding, each of which earns an annual dividend of $1.40. The current price is $16.00 per share. Lastly, sacamento has $25 million in 10-year, 4% coupon bonds outstanding. The bonds have 7 ycars remaining until they mature, and are currently trading for $985.22. Coupons are paid semi-annually. The company's income tax rate is 35%. Treasury bills are yielding 0.5% and the market risk premium is estimated to be 10.5%. d ak 37. What is the annual cost (the expected rate of return) of the company's common stock? 38. What is the annual after-tax cost of the company's debt?

Explanation / Answer

36. cost of preferred shares= annual dividend/ price per share *100= 1.4/16 *100= 8.75%

37. expected returnon common stock= risk free rate + beta*risk premium= 0.5% + 1.2*10.5%= 13.1%

38. after tax cost of debt= interest * (1-taxrate) / bond price

interest = facevalue of bond *interest rate per annum= 1000*4%= 40

after tax cost of debt= 40*(1-35%) /985.22 *100= 26/985.22 *100= 2.64%

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