1. DQZ Telecom is considering a project for the coming year, which will cost $50 million.

DQZ plans to use the following combination of debt and equity to finance the investment. Issue P15 million of 20-year bonds at a price of 101, with a coupon rate of 8 percent, and flotation costs of 2 percent of par. Use P35 million of funds generated from earnings. The equity market is expected to earn 12 percent. Phil. treasury bonds are currently yielding 5 percent. The beta coefficient for DQZ is estimated to be .60. DQZ is subject to an effective corporate income tax rate of 40 percent. What is the WACC for this project? 2. Geosung Food Co. has been paying dividends steadily for 20 years at 70% payout ratio. Financial ratios available in the annual report are: Financial leverage = 1.5; Asset turnover = 2; Equity turnover = 3; Net profit margin = 25% respectively. If Geosung Food current stock price is P78 and the firm plans to pay a dividend of P6.50, what is cost of common stock equity? 3. Compute for the weighted ratios or capital structure ratios for each independent given data. a. Financial leverage 2 c. Debt ratio - 40% b. Debt to equity - 2.5 d. ROE 15% ; ROA 8% ; NI P1,000,000 4. Pal bong Bakery Inc is a growing manufacturer of bread stock is actively traded in the market. Management policy is to maintain the current capital structure proportions of 30% long term debt, 10% preferred stock, and 60% common stock equity for at least the next 3 yrs. The firm is in the 40% tax bracket. Below are several competing investment opportunities, However, because funds are limited, choices of which projects to accept must be made. Investment IRR Initial investment A 15% P 400,000 B 22% 200,000 C 25% 700,000 D 23% 400,000 E 17% 500,000 F 19% 600,000 G 14% 500,000 To estimate the firms WACC, Pal bong contacted a leading investment banking firm, which provided the financing cost data shown in the following table. a. Long term debt. The firm can raise P450,000 of additional debt by selling 15 year, P1000 par value, 9% coupon interest rate bonds that pay annual interest. It expects to net P960 per bond after flotation costs of 2% par. Any debt excess of P450,000 will have a before P450,000 will have a before tax cost, Kd of 13%. b. Preferred stock: Preferred stock, regardless of the amount sold, can be issued with a P70 par value and 14% annual dividend rate and will net P65 per share after flotation cost. c. Common stock equity: The firm expects dividends and earnings per share to be P0.96 and P3.20, respectively, in 2010 and to continue to grow at a constant rate of 11% per year. The firms stock currently sells for P12 per share. Pal bong expects to have P 1,500,000 of retained earnings available in the coming year. Once the retained earnings have been exhausted, the firm can raise additional funds by selling new common stock, netting P 9 per share after underpricing and flotation costs. Required: 1. Calculate the cost of each source of financing as specified: 1. 2. 3. 4. 5. Long term debt, first P450,000 Long term debt, greater than P450,000 Preferred stock, all amounts Common stock equity, first P1,500,000 Common stock equity, greater than P1,500,000 2. Find the break even points associated with each source of capital, and use them to specify each of the ranges of total new financing. 3. Calculate the WACC over each of the ranges of total new financing specified in no. 2

4. Which, if any, of the available investment would you recommend that the firm accept and why?

Answer key 1. Wd = P15M/P50M We=P35M/P50M = 30% = 70% Cost of debt : YTM = 1.2M + (15M-14.85M) FV =P15M 20___ Price = P15M x 1.01 (15M+14.85M) = 15.15M 2 Proceeds = P15.15M - (2% of FV) = 8.09% =P15.15M 0.3M Kd = 8.09% x 60% =P14.85M =4.85% Interest = 1.2M Ke= RF + B(Rm-Rf) =5% + 0.6(12%-5%) = 9.20% WACC = 7.90% 1. ROE = 1.5x2x25% = 75% G = 75% x 30% = 22.5% 1. a. Financial leverage = TA/TE = 2/1 b. Debt to Equity = D/E =2.5/1 c. Debt Ratio 40% d. ROE = NI/TE TE= 6.7M 1.a. YTM = 90 + (1000-960) ___ 15__ (1000+960) 2 = 9.46% d. Ke = (0.96/12)+11% = 19% 2. BEPd = 450,000/30% = P1.5M 1. use a , c and d cost of capital WACC = 14.16% 4. A F accept , G = reject

Net

ke= (P6.5/P78)+ 22.5% = 30.83% Wd = 50% We =50%

Wd=71% We = 29% Wd = 40% We = 60% ROA = NI/TA Wd=46% We= 54% TA = 12.5M Kd = 9.46%x60% b. Kd = 13% x 60% c. Kps = 9.8/65 = 5.68% = 7.80% =15.08%

e. ke = (0.96/9)+11% = 21.67% BEPcs= 1.5M/60% = P2.5M use b,c and d cost of capital WACC = 15.25% use b,c and e cost WACC = 16.85%