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Cost of Capital
McGraw-Hill/Irwin
Coupon = 40 (1,000*8%*0.5)
T=24
R = 3.745%
P0 = $1,080
Coupon = 45 (1,000*9%*0.5)
T=(25-7)*2
R = 4.075%
b.
The aftertax cost of debt is:
c.
The after-tax rate is more relevant
because that is the actual cost to the company.
RD = .0529*(54/152.6) + .0526*(98.6/
152.6) = .0527 or 5.27%
9. Calculating WACC
Mullineaux Corporation has a target capital
structure of 50 percent common stock, 10
percent preferred stock, and 40 percent debt. Its
cost of equity is 16 percent, the cost of preferred
stock is 7.5 percent, and the cost of debt is 9
percent. The relevant tax rate is 35 percent.
a. What is Mullineaux's WACC?
b. The company president has approached you
about Mullineaux's capital structure. He wants to
know why the company doesn't use more
preferred stock financing, since it costs less than
debt. What would you tell the president?
9. a.
Using the equation to calculate the
WACC, we find:
b.
Since interest is tax deductible and
dividends are not, we must look at the after-tax
cost of debt, which is:
11. Here we have the WACC and need to find the debtequity ratio of the company. Setting up the WACC
equation, we find:
V/E = 1 + D/E
.0565(D/E) = .0350
D/E = .6195
WACC = .0437(4.12/10.95) + .
1480(5.40/10.95) + .0546(1.43/10.95) =
9.57%
17. a.
Projects X, Y and Z.
b.
Using the CAPM to consider the projects, we need to
calculate the expected return of the project given its level of risk. This
expected return should then be compared to the expected return of
the project. If the return calculated using the CAPM is higher than the
project expected return, we should accept the project, if not, we
reject the project. After considering risk via the CAPM:
E[W] = .05 + .60(.13 .05) = .0980 < .11, so
accept W
E[X]
= .05 + .90(.13 .05) = .1220 < .13, so
accept X
E[Y]
= .05 + 1.20(.13 .05) = .1460 > .14, so reject
Y
E[Z]
= .05 + 1.70(.13 .05) = .1860 > .16, so reject
Z
Project W would be incorrectly rejected; Projects Y and Z would be
incorrectly accepted.
fT = .0575 or 5.75%
Chapter 15
End of Chapter
McGraw-Hill/Irwin