Question
Beta company is a publicly traded company, with 20 million shares trading at $ 70 a share and $ 600 million in debt (market value
Beta company is a publicly traded company, with 20 million shares trading at $ 70 a share and $ 600 million in debt (market value as well as book value) outstanding. The firm derives 70% of its value from cloud storage and hosting, and the remaining 30% from technical service. The unlevered beta is 0.8 for firms in the cloud business and 1.2 for firms in the technical service business. Beta company is rated A and can borrow money at 5%. The risk-free rate is 2% and the market risk premium is 8%; the corporate tax rate is 30%, and the firm has a capital gains tax rate of 20%.
1. Estimate the cost of capital for Beta Company
2. Beta Company is considering acquiring Alpha Company, another cloud hosting company (which derives 100% of its revenues from hosting) for $ 350 million, three quarters of which it plans to fund by a new debt issue (which will cause its rating to drop and its cost of debt to rise to 5.5%) and a quarter by issuing new stock. Estimate the cost of capital after the acquisition.
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