Cost of Bonds Years Maturity-Nper 25 Cost of Bonds 10.30% PMT 103 PV (990) FV 1,000 YTM 10.41% Tax rate Kd Cost of Debt Bonds payable Preferred stock Common stock Retained earnings Total common equity Total long term financing New financing 21% 13.18% Cost of Preferred Stock Dp Annual Dividend PP Price Per Share F-PS Flotation Cost Kp Cost of Preferred Stock retian earnings $ 6,120,000 $ 1,080,000 weights/% 34% Wd 6% Wp Common $ 6,300,000 35% equity $ 4,500,000 25% $ 10,800,000 60% We $ 18,000,000 $ 7,500,000 sss Cost of Common equity 3.80 65.00 2.75 Po Price of stock today 27 DO Dividend-EOY1 0.85 g Constant Growth Rate in Dividends 12.57% 6.10% Ke rainted Required Rate of Return 17.63% n Dividend years 4 Payout ratio 42% EPS 3.25 D1 Current Dividend Price-EOY4 1.365 F-CS Floation Cost 2.15 KeNew Cost of New Common Stock 15.72% WACC-Retained earnings 15.42% WACC-New common Stock WACC-CAPM 14.28% Amount increase takes place Mobile Bionics Statement of financial position Current Assets: Cash Marketable securities Accounts receivable Less: allowance for bad debts Inventory Total current assets Fixed Assets: Assets 6969 400,000 20,000 $ 2,600,000 $ 300,000 $ 2,300,000 $ 5,500,000 $ 8,400,000 Plant and equipment, original cost $ 30,700,000 Less accumulated depreciation $ 13,200,000 Net plant and equipment $ 1,750,000 Total assets $ 25,900,000 Liabilities and stockholders equity Current Liabilities: Accounts payable Accrued expenses 6,200,000 $ 1,700,000 $ 7,900,000 Total current liabilities Long Term financing: Bonds payable Common equity 555 eses es 6,120,000 1,080,000 6,300,000 $ 4,500,000 $ 10,800,000 $ EA $ 18,000,000 25,900,000 Preferred stock Common stock Retained earnings Total common equity Total long term financing Total Liabilities and stockholders equity Security Cost of prior issues of debt and preferred stock year issue amount Coupon rate Bond 2012 $ 1,120,000 6% Bond 2016 $3,000,000 14% Bond 2022 $ 200,000 8% Preferred stock 2017 $ 600,000 12% Preferred stock 2020 $ 480,000 8% Required Return on Common Stock Using the Capital Asset Pricing Model The required return on common stock can also be calculated by an alternate approach called the capital asset pricing model. This topic is covered in Appendix 11A, so only brief mention will be made at this point. Some accept the capital asset pricing model as an important approach to common stock valuation, while others suggest it is not a valid description of how the real world operates. Under the capital asset pricing model (CAPM), the required return for common stock (or other investments) can be described by the following formula: K = R+ (Km - R) (11-4) where Kj = Required return on common stock R+= Risk-free rate of return; usually the current rate on Treasury bill securities = Beta coefficient. The beta measures the historical volatility of an individual stock's return relative to a stock market index. A beta greater than 1 indicates greater volatility (price movements) than the market, while the reverse would be true for a beta less than 1. Km = Return expected in the market as measured by an appropriate index