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BLACKFRIDAY company is planning an expansion of its existing production capacity. The firm hired you as a consultant for the expansion project. Since you are
BLACKFRIDAY company is planning an expansion of its existing production capacity. The firm hired you as a consultant for the expansion project. Since you are a savvy project manager, you first decided to estimate the firms cost of capital based on the available data.
Data:
- Tax Rate: 40%
- Bond: Coupon rate 12%, Maturity Years 15, Present value $1150
- Preferred Stock: Dividend rate 10%, Par Value $100, Present Value $111 Common Stock: Market price $50, D0=$4.20, Dividend growth 5%, Beta 1.2, Treasury Bond yield 7%, Market risk premium 6%. When the firm uses Bond-yield+Premium method, the risk premium is 4%.
- Capital structure of ABC is as follows;
- Debt 30%, Common Equity 60%, Preferred Stock 10%
Next, you asked your assistant Mr.COUPON to give his opinion on the following burning questions;
- What sources of capital you should consider for WACC? Should the sources be before tax? Should the costs be historical?
- What is the BLACKFRIDAYs Cost of Bond? What is the after-tax Cost of Bond to be used in WACC?
- What is the cost of the firms preferred stock?
- Calculate Cost of Equity of using CAPM and Bond-yield+Premium method, and DCF methods.
- What is your final Cost of Equity?
- Do you agree that the cost of new equity is cheaper than the cost of retained earnings? Why?
- What is flotation cost and how do you adjust it?
- If the flotation cost of new stock issue is 10%, what is the estimated cost of equity considering the 10% flotation cost under DCF method you calculated in question iv above?
- What are the components of the WACC you calculated above to be blamed for higher WACC? What can be done to reduce the WACC further?
- Should you use this WACC for all the projects? Why and why not?
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