Additional Practice Problems: Chapters 9 and 10 1. Compute the WACC for a company with the following information: A company has 10,000 bonds outstanding with a 6% annual coupon rate, 8 years to maturity, a $1,000 face value, and a $1,100 market price The company's 100,000 shares of preferred stock pay a $3 annual dividend, and sell for $30 per share The company's 500,000 shares of common stock sell for $25 per share and have a beta of 1.5 The risk free rate is 4%, and the market expected return is 12% The company's marginal tax rate is 40% (Answer: WACC 9.8%) MV of Debt = 10,000*$1,100 = $11,000,000 Ra = Cost of Debt - YTM: 8 N; -1,100 PV; 60 PMT; 1,000 FV; R. = 4.48% MV of Preferred = 100,000*$30 = $3,000,000 Ro - Cost of Preferred = 3/30 = 10% MV of Common = 500,000*$25 = $12,500,000 Rs = Cost of Common = 0.04 + 1.5*(0.12 - 0.04) =16% Total MV of all securities = $1 IM + $3M + $12.5M = $26.5M Weight of Debt = 1IM/26.5M = 0.4151 Weight of Preferred = 3M/26.5M = 0.1132 Weight of Common = 12.5M/26.5M = 0.4717 WACC - waR ( I-T) + woke + wcRs WACC - 0.4151*0.0448*(1 - 0.4) + 0.1132*0.10 + 0.4717*0.16 = 0.0979 - 9.8% 2. Phillips Equipment has 80,000 bonds outstanding that are selling at par. Bonds with similar characteristics are yielding 6%. The company also has 1,000,000 shares of 5% preferred stock (par value $100) and 2 million shares of common stock outstanding. The preferred stock sells for $50 a share. The common stock has a beta of 2 and sells for $35 a share. The risk-free rate is 5% and the expected market return is 10%. The corporate tax rate is 40%. What is the firm's weighted average cost of capital? (Answer: WACC 9.19%) 3. The "Koalas Are Marsupials Not Bears" company has 20 million shares of common stock outstanding. The book value is $25 per share and the market price is $30 per share. The risk-free rate is 5% and the market expected return is 10%. The stock has a beta of 1. The company just paid a dividend of $2 per share. The firm has $200,000,000 debt outstanding (8% coupon rate) with 15 years remaining to maturity and currently sells for $1,000 (or par). If the company's tax rate is 40%, find the WACC. (Answer: WACC-8.70%)4. The Bakery is considering a new project it considers to be a little riskier than its current operations. Thus, management has decided to add an additional 1.5% to the company's overall weighted average cost of capital when evaluating this project. The project has an initial cash outlay of $62,000 and projected net cash inflows of $17,000 in year one, $28,000 in year two, and $30,000 in year three. The firm uses 25% debt and 75% common stock as its capital structure. The company's after-tax cost of debt is 5% while the company's cost of equity is 15%. What is the projected net present value of the new project? (Answer: NPV--$5,293.48) 5. What is the NPV and the payback period of the following set of cash flows if the cost of capital is 20%? Year Cash Flow -$1,900 $1,100 $900 $700 (Answer: NPV-$46.76 and payback period = 1.89 years) 6. You are considering investing in a project with following year-end net cash flows: Year Cash Flow $5,000 $3,000 $8,000 If the initial outlay for this project is $12,000, and your required rate of return is 15%, what is the NPV of this project? Should you accept/reject this project? (Answer: NPV - -$123.61. As NVP