Question
As a consultant to GBH Skiwear, you have been asked to compute the appropriate discount rate to use in the evaluation of the purchase of
As a consultant to GBH Skiwear, you have been asked to compute the appropriate discount rate to use in the evaluation of the purchase of a new warehouse facility. You have determined the market value of the firms current capital structure as follows:
Source of Capital | Market Value |
Bonds | $500,000 |
Preference Stocks | $100,000 |
Common Stocks | $400,000 |
To finance the purchase, GBH will sell 20-year bonds with a $1,000 face value paying 8% coupon per year (paid semi-annually) at the market price of $950, with a YTM of 8.53%. Preferred stocks paying a $2.5 dividend can be sold for $35. Common stocks for GBH are currently selling for $50 each. The firm paid a $4 dividend last year and expects dividends to continue growing at a rate of 4% per year forever. The corporate tax rate is 21%.
- Calculate the cost of common stock of GBH. Show your calculations. Show your calculations.
(2 marks)
- Calculate the cost of preferred stock of GBH. Show your calculations.
(2 marks)
- Calculate the after-tax cost of debt of GBH. Show your calculations.
(2 marks)
- Calculate the weighted average cost of capital of GBH. Show your calculations.
(3 marks)
- What would be the consequence of using the weighted average cost of capital as the required return of an investment project which has a much lower risk than the overall risk of a firm? Explain briefly.
(2 marks)
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