In period 0, a successful start-up aggressively raises money in the capital markets through a combination of stock and bond issuance. In this environment, assume the risk free rate is 2%, expected market premium is 8% and tax rate is 25%.
Question 5 (30 points) (Cost of Capital) In period 0, a successful start-up aggressively raises money in the capital markets through a combination of stock and bond issuance. In this environment, assume the risk free rate is 2%, expected market premium is 8% and tax rate is 25%. Through an IPO, the company issues 50,000 shares of common stock and at p= $10 per share. It is believed in period 0 that the investors expect a 15% return on holding this company's common stock. The company also issues 20,000 shares of preferred stock traded at $5 per share, which promises an annual dividend payment of $0.50 per share. In period 0, the company has also auctioned off 2,000 shares of 10-year corporate bonds at a par value of 1000, (that is 1000.) The bond has a yield to maturity (YTM) of 8%, and makes ten annual coupon payment of X dollars per share in t = 1, 2, 3, . . 10. In period 10, the bond holder gets par value back. 1. Based on period O information, answer the following questions, (a) According to CAPM, what's the perceived beta of this company's common stock? (b) What's the rate of return required by investors who bought the preferred stock? (c) Draw the timeline for an investor who bought one share of the corporate bond at par value in period 0, and hold it until maturity at t = 10. Solve for X. (d) How much money does the company raise on the capital market in period 0? What are the relative weights for common stocks Wcs, preferred stock wps and bond wd? (e) What's the company's WACC in period 0? Question 5 (30 points) (Cost of Capital) In period 0, a successful start-up aggressively raises money in the capital markets through a combination of stock and bond issuance. In this environment, assume the risk free rate is 2%, expected market premium is 8% and tax rate is 25%. Through an IPO, the company issues 50,000 shares of common stock and at p= $10 per share. It is believed in period 0 that the investors expect a 15% return on holding this company's common stock. The company also issues 20,000 shares of preferred stock traded at $5 per share, which promises an annual dividend payment of $0.50 per share. In period 0, the company has also auctioned off 2,000 shares of 10-year corporate bonds at a par value of 1000, (that is 1000.) The bond has a yield to maturity (YTM) of 8%, and makes ten annual coupon payment of X dollars per share in t = 1, 2, 3, . . 10. In period 10, the bond holder gets par value back. 1. Based on period O information, answer the following questions, (a) According to CAPM, what's the perceived beta of this company's common stock? (b) What's the rate of return required by investors who bought the preferred stock? (c) Draw the timeline for an investor who bought one share of the corporate bond at par value in period 0, and hold it until maturity at t = 10. Solve for X. (d) How much money does the company raise on the capital market in period 0? What are the relative weights for common stocks Wcs, preferred stock wps and bond wd? (e) What's the company's WACC in period 0
