Principles of Managerial Finance, 13e (Gitman) 13e (Gitman) Chapter 9 The Cost of Capital
9.1 Understand the basic concept and the sources sources of capital associated with the cost of capital. 1) The target capital structure is the desired optimal mix of debt and e quity financing that most firms attempt to achieve and maintain. Answer T!U" Topic Target #apital $tructure %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills ) The cost of capital is the rate of return a firm must earn on investments in order to leave share price unchanged. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills *) The cost of capital is used to decide whether a proposed corporate investment will increase or decrease the firm+s stoc( price. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills ,) The cost of capital reflects the cost of funds over the long run measured at a given point in time- based on the best information available. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills ) The cost of capital acts as a ma/or lin( between the firm+s long0term investment decisions and the wealth of the owners as determined by investors in the mar(etplace. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills ) The cost of capital can be thought of as the rate of return required by the mar(et suppliers of capital in order to attract their funds to the firm. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills
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6) 7olding ris( constant- the implementation of pro/ects with a rate o f return above the cost of capital will decrease the value of the firm- and vice versa. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills :) The specific cost of each source of financing is the after0tax cost of obtaining the financing using the historically based cost reflected by the existing financing on the firm+s boo(s. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 9) The cost of capital can be thought of as the ;magic number; n umber; that is used to decide whether a proposed corporate investment will increase or decrease the firm+s stoc( stoc( price. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 13) The cost of common stoc( equity can be thought of as the ;magic number; that is used to decide whether a proposed corporate co rporate investment will increase or decrease the firm+s stoc( price. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 11) The cost of capital is a static concept< it is not affected by economic and firm0specific factors such as business ris( and financial ris(. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 1) The cost of capital is a dynamic concept< it is affected by economic and firm0specific factors such as business ris( and financial ris(. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills
6) 7olding ris( constant- the implementation of pro/ects with a rate o f return above the cost of capital will decrease the value of the firm- and vice versa. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills :) The specific cost of each source of financing is the after0tax cost of obtaining the financing using the historically based cost reflected by the existing financing on the firm+s boo(s. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 9) The cost of capital can be thought of as the ;magic number; n umber; that is used to decide whether a proposed corporate investment will increase or decrease the firm+s stoc( stoc( price. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 13) The cost of common stoc( equity can be thought of as the ;magic number; that is used to decide whether a proposed corporate co rporate investment will increase or decrease the firm+s stoc( price. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 11) The cost of capital is a static concept< it is not affected by economic and firm0specific factors such as business ris( and financial ris(. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 1) The cost of capital is a dynamic concept< it is affected by economic and firm0specific factors such as business ris( and financial ris(. Answer T!U" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills
1*) 5n using the cost of capital- it is important that it reflects the historical cost of raising funds over the long run. Answer 8A$" Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 1,) The ======== is the rate of o f return a firm must earn on its investments in pro/ects in order to maintain the mar(et value of its stoc(. A) net present value &) cost of capital #) internal rate of return >) gross profit margin Answer & Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 1) The ======== is the rate of o f return required by the mar(et suppliers of capital in order to attract their funds to the firm. A) yield to maturity &) internal rate of return #) cost of capital >) gross profit margin Answer # Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 1) The cost of capital reflects the cost of funds A) over a short0run time period. &) at a given point in time. #) over a long0run time period. >) at current boo( values. Answer # Topic To pic &asic #oncept of #ost of #apital #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills 16) The four basic sources of long0term funds for the business firm are A) current liabilities- long0term debt- common stoc(- and preferred stoc(. &) current liabilities- long0term debt- common stoc(- and retained earnings. #) long0term debt- paid0in capital in excess of parp ar- common stoc(- and retained earnings. >) long0term debt- common stoc(- preferred stoc(- and retained earnings. Answer > Topic To pic #omparing the #ost of ?ar ?arious ious $ources of #apital %uestion $tatus !evised AA#$& 'uidelines 'uidelines !eflective thin(ing thin(ing s(ills s(ills *
1:) 8irms typically raise long0term funds A) only at the inception of the firm. &) on a continuous basis. #) in lump sums as needed. >) in proportion to the capital mixture of the target capital structure. Answer # Topic &asic #oncept of #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 19) The firm+s optimal mix of debt and equity is called its A) optimal ratio. &) target capital structure. #) maximum wealth. >) maximum boo( value. Answer & Topic Target #apital $tructure %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 3) The cost of each type of capital depends on the A) ris(0free cost of that type of funds. &) business ris( of the firm. #) financial ris( of the firm. >) all of the above. Answer > Topic &asic #oncept of #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1) The ======== is a weighted average of the cost of funds which reflects the interrelationship of financing decisions. A) ris( premium &) nominal cost #) cost of capital >) ris(0free rate Answer # Topic &asic #oncept of #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
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) The ======== is the firm+s desired optimal mix of debt and equity financing. A) boo( value &) mar(et value #) cost of capital >) target capital structure Answer > Topic Target #apital $tructure %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *) The cost to a corporation of each type of capital is dependent upon A) the ris(0free rate of bonds plus the business ris( of the firm. &) the ris(0free rate of each type of capital plus the business ris( of the firm. #) the ris(0free rate of each type of capital plus the financial ris( of the firm. >) the ris(0free rate of each type of capital plus the business ris( and the financial ris( of the firm. Answer > Topic &asic #oncept of #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ,) The specific cost of each source of long0term financing is based on ======== and ======== costs. A) before0tax< historical &) after0tax< historical #) before0tax< boo( value >) after0tax< current Answer > Topic &asic #oncept of #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) 5n order to recogni@e the interrelationship between financing and investments- the firm should use ======== when evaluating an investment. A) the least costly source of financing &) the most costly source of financing #) the weighted average cost of all financing sources >) the current opportunity cost Answer # Topic &asic #oncept of #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
) A corporation has concluded that its financial ris( premium is too h igh. 5n order to decrease this- the firm can A) increase the proportion of long0term debt to decrease the cost of capital. &) increase short0term debt to decrease the cost of capital. #) decrease the proportion of common stoc( equity to decrease financial ris(. >) increase the proportion of common stoc( equity to decrease financial ris(. Answer > Topic 8inancial !is( %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 9. "xplain what is meant by marginal cost of capital. 1) The marginal cost of capital necessary to raise the next marginal dollar of financing is relevant for evaluating the firm+s future investment opportunities. Answer T!U" Topic arginal #ost of #apital %uestion $tatus Bew AA#$& 'uidelines !eflective thin(ing s(ills ) A company+s historical target capital structure is ,3 percent debt and 3 percent equity. The company expects to issue more equity in the upcoming year moving its capital structure to 3 percent debt and 3 percent equity for the long term. The company should use the current ,3 percent debtC3 equity for its average weighted cost of capital. Answer 8A$" Topic arginal #ost of #apital %uestion $tatus Bew AA#$& 'uidelines !eflective thin(ing s(ills 9.* >etermine the cost of long0term debt- and explain why the after0tax cost of debt is the relevant cost of debt. 1) 5n general- floatation costs include two components- underwriting costs and administrative costs. Answer T!U" Topic 8lotation #osts %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) 8lotation costs reduce the net proceeds from the sale of a bond whether sold at a premium- at a discount- or at its par value. Answer T!U" Topic 8lotation #osts %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
*) The net proceeds used in calculation of the cost of long0term debt are funds actually received from the sale after paying for flotation costs and taxes. Answer 8A$" Topic 8lotation #osts %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ,) Dhen the net proceeds from sale of a bond equal its par value- the before0tax cost would /ust equal the coupon interest rate. Answer T!U" Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) 8rom a bond issuer+s perspective- the 5!! on a bond+s cash flows is its cost to maturity< from the investor+s perspective- the 5!! on a bond+s cash flows is the yield to maturity EFT). Answer T!U" Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) 8rom a bond issuer+s perspective- the 5!! on a bond+s cash flows is its yield to maturity EFT)< from the investor+s perspective- the 5!! on a bond+s cash flows is the cost to maturity. Answer 8A$" Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 6) Bico Trading #orporation is considering issuing long0term debt. The debt would have a *3 year maturity and a 13 percent coupon rate. 5n order to sell the issue- the bonds must be underpriced at a discount of percent of face value. 5n addition- the firm would have to pay flotation costs of percent of face value. The firm+s tax rate is * percent. 'iven this information- the after tax cost of debt for Bico Trading would be 6. percent. Answer T!U" Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills :) Bico Trading #orporation is considering issuing long0term debt. The debt would have a *3 year maturity and a 13 percent coupon rate. 5n order to sell the issue- the bonds must be underpriced at a discount of percent of face value. 5n addition- the firm would have to pay flotation costs of percent of face value. The firm+s tax rate is * percent. 'iven this information- the after tax cost of debt for Bico Trading would be 11.16 percent. Answer 8A$" Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 6
9) The ======== from the sale of a security are the funds actually received from the sale after ========- or the total costs of issuing and selling the security- which have been subtracted from the total proceeds. A) gross proceeds< the after0tax costs &) gross proceeds< the flotation costs #) net proceeds< the flotation costs >) net proceeds< the after0tax costs Answer # Topic 8lotation #osts %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 13) A tax ad/ustment must be made in determining the cost of A) long0term debt. &) common stoc(. #) preferred stoc(. >) retained earnings. Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 11) The before0tax cost of debt for a firm which has a ,3 percent marginal tax rate is 1 percent. The after0tax cost of debt is A) ,.: percent. &) .3 percent. #) 6. percent. >) 1 percent. Answer # Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 1) Dhen determining the after0tax cost of a bond- the face value of the issue must be ad/usted to the net proceeds amounts by considering A) the ris(. &) the flotation costs. #) the approximate returns. >) the taxes. Answer & Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
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1*) The approximate before0tax cost of debt for a 10year- 13 percent- G1-333 par value bond selling at G93 is A) 13 percent. &) 13. percent. #) 1 percent. >) 1., percent. Answer & Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 1,) 5f a corporation has an average tax rate of ,3 percent- the approximate- annual- after0tax cost of debt for a 10year- 1 percent- G1-333 par value bond- selling at G93 is A) 13 percent. &) 13. percent. #) 6. percent. >) .3 percent. Answer # Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 1) 5f a corporation has an average tax rate of ,3 percent- the approximate annual- after0tax cost of debt for a 130year- : percent- G1-333 par value bond selling at G1-13 is A) *. percent. &) ,.: percent. #) percent. >) : percent. Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 1) The approximate before0tax cost of debt for a 130year- : percent- G1-333 par value bond selling at G1-13 is A) percent. &) :.* percent. #) :.: percent. >) 9 percent. Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
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16) The approximate after0tax cost of debt for a 30year- 6 percent- G1-333 par value bond selling at G93 Eassume a marginal tax rate of ,3 percent) is A) ,.,1 percent. &) .1 percent. #) 6 percent. >) 6.* percent. Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 1:) >ebt is generally the least expensive source of capital. This is primarily due to A) fixed interest payments. &) its position in the priority of claims on assets and earnings in the event of liquidation. #) the tax deductibility of interest payments. >) the secured nature of a debt obligation. Answer # Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 19) Bico Trading #orporation is considering issuing long0term debt. The debt would have a *3 year maturity and a 13 percent coupon rate. 5n order to sell the issue- the bonds must be underpriced at a discount of percent of face value. 5n addition- the firm would have to pay flotation costs of percent of face value. The firm+s tax rate is * percent. 'iven this information- the after tax cost of debt for Bico Trading would be A) 6.H. &) 11.16H. #) 13.33H. >) none of the above. Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 3) Tangshan ining is considering issuing long0term debt. The debt would have a *3 year maturity and a 1 percent coupon rate and ma(e semiannual coupon payments. 5n order to sell the issue- the bonds must be underpriced at a discount of . percent of face value. 5n additionthe firm would have to pay flotation costs of . percent of face value. The firm+s tax rate is ** percent. 'iven this information- the after tax cost of debt for Tangshan ining would be A) .*:H. &) 1.6H. #) ,.9:H. >) :.H. Answer > Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 13
9., >etermine the cost of preferred stoc( 1) $ince preferred stoc( is a form of ownership- it has no maturity date. Answer T!U" Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) 4referred stoc( represents a special type of ownership interest in the firm. 4referred stoc(holders must receive their stated dividends prior to the distribution of any earnings to common stoc(holders and bondholders. Answer 8A$" Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *) The amount of preferred stoc( dividends that must be paid each year may be stated in dollars or as a percentage of the firm+s earnings. Answer 8A$" Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ,) The cost of preferred stoc( is typically higher than the cost of long0term debt Ebonds) because the cost of long0term debt Einterest) is tax deductible. Answer T!U" Topic #ost of 4referred $toc( #ompared to ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) Bico Trading #orporation is considering issuing preferred stoc(. The preferred stoc( would have a par value of G6 and a preferred dividend of 6. percent of par. 5n order to issue the stoc( Bico trading would have to pay flotation costs of percent of par value. 'iven this information Bico Trading+s cost of preferred stoc( would be 6.9: percent. Answer T!U" Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills ) Bico Trading #orporation is considering issuing preferred stoc(. The preferred stoc( would have a par value of G6 and a preferred dividend of 6. percent of par. 5n order to issue the stoc( Bico trading would have to pay flotation costs of percent of par value. 'iven this information Bico Trading+s cost of preferred stoc( would be 6. percent. Answer 8A$" Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 11
6) Dhat is the dividend on an : percent preferred stoc( that currently sells for G, and has a face value of G3 per shareI A) G*.** &) G*.3 #) G,.33 >) G.33 Answer # Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills :) A firm has issued 13 percent preferred stoc(- which sold for G133 per share par value. The cost of issuing and selling the stoc( was G per share. The firm+s marginal tax rate is ,3 percent. The cost of the preferred stoc( is A) *.9 percent. &) .1 percent. #) 9.: percent. >) 13. percent. Answer > Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 9) A firm has issued preferred stoc( at its G1 per share par value. The stoc( will pay a G1 annual dividend. The cost of issuing and selling the stoc( was G, per share. The cost of the preferred stoc( is A) 6. percent. &) 1 percent. #) 1., percent. >) 1 percent. Answer # Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 13) A firm has determined it can issue preferred stoc( at G11 per share par value. The stoc( will pay a G1 annual dividend. The cost of issuing and selling the stoc( is G* per share. The cost of the preferred stoc( is A) ., percent. &) 13., percent. #) 13.6 percent. >) 1 percent. Answer # Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
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11) Tangshan ining is considering issuing preferred stoc(. The preferred stoc( would have a par value of G6- and a .3 percent dividend. Dhat is the cost of preferred stoc( for Tangshan if flotation costs would amount to . percent of par valueI A) .3H &) .6H #) 6.6*H >) .:H Answer > Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 9. #alculate the cost of common stoc( equity- and convert it into the cost of retained earnings and the cost of new issues of common stoc(. 1) The cost of common stoc( equity may be measured using either the constant growth valuation model or the capital asset pricing model. Answer T!U" Topic #ost of #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) A firm can retain more of its earnings if it can convince its stoc(holders that it will earn at least their required return on the reinvested funds. Answer T!U" Topic #ost of #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *) 5n computing the cost of retained earnings- the net proceeds represents the amount of money retained net of any underpricing andCor flotation costs. Answer 8A$" Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ,) Jne measure of the cost of common stoc( equity is the rate at which investors discount the expected dividends of the firm to determine its share value. Answer T!U" Topic #ost of #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
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) The constant growth model uses the mar(et price as a reflection of the expected ris(0return preference of investors in the mar(etplace. Answer T!U" Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) The cost of common stoc( equity capital represents the return required by existing shareholders on their investment in order to leave the mar(et price of the firm+s outstanding share unchanged. Answer T!U" Topic #ost of #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 6) The cost of retained earnings is always lower than the cost of a new issue of common stoc( due to the absence of flotation costs when financing pro/ects with retained earnings. Answer T!U" Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills :) $ince the net proceeds from sale of new common stoc( will be less than the current mar(et price- the cost of new issues will always be less than the cost of existing issues. Answer 8A$" Topic #ost of Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 9) The 'ordon model is based on the premise that the value of a share of stoc( is equal to sum of all future dividends it is expected to provide over an infinite time hori@on. Answer 8A$" Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 13) The cost of retained earnings is generally higher than both the cost of debt and cost of preferred stoc(. Answer T!U" Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
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11) Using the #apital Asset 4ricing odel E#A4)- the cost of common stoc( equity is the return required by investors as compensation for the firm+s nondiversifiable ris(. Answer T!U" Topic #apital Asset 4ricing odel E#A4) %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1) Use of the #apital Asset 4ricing odel E#A4) in measuring the cost of common stoc( equity differs from the constant growth valuation model in that it directly considers the firm+s ris( as reflected by beta. Answer T!U" Topic #apital Asset 4ricing odel E#A4) %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1*) Dhen the constant growth valuation model is used to find the cost of common stoc( equity capital- it can easily be ad/usted for flotation costs to find the cost of new common stoc(< the #apital Asset 4ricing odel E#A4) does not provide a simple ad/ustment mechanism. Answer T!U" Topic #A4 and #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1,) The cost of new common stoc( is normally greater than any other long0term financing cost. Answer T!U" Topic #ost of Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1) The capital asset pricing model describes the relationship between the required return- or the cost of common stoc( equity capital- and the nonsystematic ris( of the firm as measured by the beta coefficient. Answer 8A$" Topic #apital Asset 4ricing odel E#A4) %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1) The cost of retained earnings for Tangshan ining would be 1., percent if the firm /ust paid a dividend of G,.33- the stoc( price is G3.33- dividends are expected to grow at : percent indefinitely- and flotation costs are G.33 per share. Answer T!U" Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
1
16) The cost of retained earnings for Tangshan ining would be 16.3 percent if the firm /ust paid a dividend of G,.33- the stoc( price is G3.33- dividends are expected to grow at : percent indefinitely- and flotation costs are G.33 per share. Answer 8A$" Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 1:) The cost of new common stoc( equity for Tangshan ining would be 16.3 percent if the firm /ust paid a dividend of G,.33- the stoc( price is G3.33- dividends are expected to grow at : percent indefinitely- and flotation costs are G.33 per share. Answer T!U" Topic #ost of Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 19) The cost of retained earnings equity for Tangshan ining would be 1:.33 percent if the expected return on U.$. Treasury &ills is .33 percent- the mar(et ris( premium is 13.33 percentand the firm+s beta is 1.*. Answer T!U" Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 3) The cost of retained earnings equity for Tangshan ining would be 1:.33 percent if the expected return on U.$. Treasury &ills is .33 percent- the mar(et return is 13 .33 percent- and the firm+s beta is 1.*. Answer 8A$" Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 1) The cost of common stoc( equity is A) the cost of the guaranteed stated dividend. &) the rate at which investors discount the expected dividends of the firm. #) the after0tax cost of the interest obligations. >) the historical cost of floating the stoc( issue. Answer & Topic #ost of #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
1
) The cost of common stoc( equity may be estimated by using the A) yield curve. &) net present value method. #) 'ordon model. >) >u4ont analysis. Answer # Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *) The cost of common stoc( equity may be estimated by using the A) yield curve. &) capital asset pricing model. #) internal rate of return. >) >u4ont analysis. Answer & Topic #apital Asset 4ricing odel E#A4) %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ,) The cost of retained earnings is A) @ero. &) equal to the cost of a new issue of common stoc(. #) equal to the cost of common stoc( equity. >) irrelevant to the investmentCfinancing decision. Answer # Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) The cost of new common stoc( financing is higher than the cost of retained earnings due to A) flotation costs and underpricing. &) flotation costs and overpricing. #) flotation costs and commission costs. >) commission costs and overpricing. Answer A Topic #ost of Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
16
) The constant growth valuation model the 'ordon model is based on the premise that the value of a share of common stoc( is A) the sum of the dividends and expected capital appreciation. &) determined based on an industry standard 4C" multiple. #) determined by using a measure of relative ris( called beta. >) equal to the present value of all expected future dividends. Answer > Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
6) 5n calculating the cost of common stoc( equity- the model having the stronger theoretical foundation is A) the constant growth model. &) the 'ordon model. #) the variable growth model. >) the capital asset pricing model. Answer > Topic #A4 versus #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills :) A firm has a beta of 1.. The mar(et return equals 1, percent and the ris(0free rate of return equals percent. The estimated cost of common stoc( equity is A) percent. &) 6. percent. #) 1, percent. >) 1. percent. Answer > Topic #apital Asset 4ricing odel E#A4) %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 9) Jne ma/or expense associated with issuing new shares of common stoc( is A) underwriting fees. &) legal fees. #) registration fees. >) underpricing. Answer > Topic 8lotation #osts %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
1:
*3) 8irms underprice new issues of common stoc( for the following reasonEs). A) Dhen the mar(et is in equilibrium- additional demand for shares can be achieved only at a lower price. &) Dhen additional shares are issued- each share+s percent of ownership in the firm is dilutedthereby /ustifying a lower share value. #) any investors view the issuance of additional shares as a signal that management is using common stoc( equity financing because it believes that the shares are currently overpriced. >) all of the above. Answer > Topic Underpricing Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *1) #ircumstances in which the constant growth valuation model the 'ordon model for estimating the value of a share of stoc( should be used include A) declining dividends. &) an erratic dividend stream. #) the lac( of dividends. >) a steady growth rate in dividends. Answer > Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
*) A firm has common stoc( with a mar(et price of G per share and an expected dividend of G per share at the end of the coming year. The growth rate in dividends has been percent. The cost of the firm+s common stoc( equity is A) percent. &) : percent. #) 13 percent. >) 1* percent. Answer > Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
19
**) A firm has common stoc( with a mar(et price of G per share and an expected dividend of G.:1 per share at the end of the coming year. The dividends paid on the outstanding stoc( over the past five years are as follows
The cost of the firm+s common stoc( equity is A) ,.1 percent. &) .1 percent. #) 1.1 percent. >) 1., percent. Answer # Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills *,) Using the capital asset pricing model- the cost of common stoc( equity is the return required by investors as compensation for A) the specific ris( of the firm. &) the firm+s diversifiable ris(. #) price volatility of the stoc(. >) the firm+s nondiversifiable ris(. Answer > Topic #apital Asset 4ricing odel E#A4) %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
3
*) A firm has common stoc( with a mar(et price of G133 per share and an expected dividend of G.1 per share at the end of the coming year. A new issue of stoc( is expected to be sold for G9:with G per share representing the underpricing necessary in the competitive capital mar(et. 8lotation costs are expected to total G1 per share. The dividends paid on the outstanding stoc( over the past five years are as follows
The cost of this new issue of common stoc( is A) .: percent. &) 6.6 percent. #) 13.: percent. >) 1.: percent. Answer > Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills *) $ince retained earnings are viewed as a fully subscribed issue of additional common stoc(the cost of retained earnings is A) less than the cost of new common stoc( equity. &) equal to the cost of new common stoc( equity. #) greater than the cost of new common stoc( equity. >) not related to the cost of new common stoc( equity. Answer A Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *6) 5n comparing the constant growth model and the capital asset pricing model E#A4) to calculate the cost of common stoc( equityA) the constant growth model ignores ris(- while the #A4 directly considers ris( as reflected in the beta. &) the #A4 directly considers ris( as reflected in the beta- while the constant growth model uses the mar(et price as a reflection of the expected ris(0return preference of investors. #) the #A4 directly considers ris( as reflected in the beta- while the constant growth model uses dividend expectations as a reflection of ris(. >) the #A4 indirectly considers ris( as reflected in the mar(et return- while the constant growth model uses dividend expectations as a reflection of ris(. Answer & Topic #A4 versus #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1
*:) 5n calculating the cost of common stoc( equity A) the use of the capital asset pricing model E#A4) is often preferred- because the data required are more readily available. &) the use of the #A4 is preferred- because it more directly calculates ris(. #) the use of the constant growth valuation model is often preferred- because the data required are more readily available. >) the use of the constant growth valuation model is often preferred- because it has a stronger theoretical foundation. Answer # Topic #A4 versus #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *9) 'iven that the cost of common stoc( is 1: percent- dividends are G1.3 per share- and the price of the stoc( is G1.3 per share- what is the annual growth rate of dividendsI A) , percent &) percent #) percent >) : percent Answer # Topic #onstant 'rowth odel %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills ,3) Dhat would be the cost of new common stoc( equity for Tangshan ining if the firm /ust paid a dividend of G,.- the stoc( price is G.33- dividends are expected to grow at :. percent indefinitely- and flotation costs are G. per shareI A) 16.9H &) 1.::H #) 9.,H >) none of the above Answer A Topic #ost of Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills ,1) Dhat would be the cost of retained earnings equity for Tangshan ining if the expected return on U.$. Treasury &ills is .33H- the mar(et ris( premium is 13.33 percent- and the firm+s beta is 1.*I A) 11.H &) 1:.3H #) 13.3H >) none of the above. Answer & Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
9. #alculate the weighted average cost of capital EDA##) and discuss alternative weighting schemes. 1) The weighted average cost that reflects the interrelationship of financing decisions can be obtained by weighing the cost of each source of financing by its target proportion in the firm+s capital structure. Answer T!U" Topic Target ar(et ?alue Deights %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) 5n computing the weighted average cost of capital- the historic weights are either boo( value or mar(et value weights based on actual capital structure proportions. Answer T!U" Topic ar(et ?alue versus &oo( ?alue Deights %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills *) 5n computing the weighted average cost of capital- the target weights are either boo( value or mar(et value weights based on actual capital structure proportions. Answer 8A$" Topic ar(et ?alue versus &oo( ?alue Deights %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ,) 5n computing the weighted average cost of capital- from a strictly theoretical point of view- the preferred weighing scheme is target mar(et value proportions. Answer T!U" Topic Target ar(et ?alue Deights %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) The weighted average cost of capital EDA##) reflects the expected average future cost of funds over the long run. Answer T!U" Topic Deighted Average #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills ) $ince retained earnings is a more expensive source of financing than debt and preferred stoc(the weighted average cost of capital will fall once retained earnings have been exhausted. Answer 8A$" Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
*
6) A firm may face increases in the weighted average cost of capital either when retained earnings have been exhausted or due to increases in debt- preferred stoc(- and common equity costs as additional new funds are required. Answer T!U" Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills :) Deights that use accounting values to measure the proportion of each type of capital in the firm+s financial structure are called mar(et value weights. Answer 8A$" Topic Alternative Deighting $chemes %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 9) Deights that use accounting values to measure the proportion of each type of capital in the firm+s financial structure are called boo( value weights. Answer T!U" Topic Alternative Deighting $chemes %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 13) 7istorical weights are either boo( value or mar(et value weights based on the actual historical capital structure proportions. Answer T!U" Topic Alternative Deighting $chemes %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 11) Target weights are either boo( value or mar(et value weights based on the actual historical capital structure proportions. Answer 8A$" Topic Alternative Deighting $chemes %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1) Target weights are either boo( value or mar(et value weights based on desired capital structure proportions. Answer T!U" Topic Alternative Deighting $chemes %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
,
1*) 'enerally- the order of cost- from the least expensive to the most expensive- for long0term capital of a corporation is A) new common stoc(- retained earnings- preferred stoc(- long0term debt. &) common stoc(- preferred stoc(- long0term debt- short0term debt. #) preferred stoc(- retained earnings- common stoc(- new common stoc(. >) long0term debt- preferred stoc(- retained earnings- new common stoc(. Answer > Topic #omparing the #ost of ?arious $ources of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1,) 'enerally the least expensive source of long0term capital is A) retained earnings. &) preferred stoc(. #) long0term debt. >) short0term debt. Answer # Topic #omparing the #ost of ?arious $ources of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1) Deighing schemes for calculating the weighted average cost of capital include all of the following "K#"4T A) boo( value weights. &) optimal value weights. #) mar(et value weights. >) target weights. Answer & Topic Alternative Deighting $chemes %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1) The preferred capital structure weights to be used in the weighted average cost of capital are A) mar(et weights. &) nominal weights. #) historic weights. >) target weights. Answer > Topic Target ar(et ?alue Deights %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
16) Dhen discussing weighing schemes for calculating the weighted average cost of capital- the preferences can be stated as A) mar(et value weights are preferred over boo( value weights and target weights are preferred over historic weights. &) boo( value weights are preferred over mar(et value weights and target weights are preferred over historic weights. #) boo( value weights are preferred over mar(et value weights and historic weights are preferred over target weights. >) mar(et value weights are preferred over boo( value weights and historic weights are preferred over target weights. Answer A Topic Alternative Deighting $chemes %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills 1:) A firm has determined its cost of each source of capital and optimal capital structure- which is composed of the following sources and target mar(et value proportions
The weighted average cost of capital is A) percent. &) 13.6 percent. #) 11 percent. >) 1 percent. Answer # Topic Deighted Average #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
19) A firm has determined its cost of each source of capital and optimal capital structure- which is composed of the following sources and target mar(et value proportions
5f the firm were to shift toward a more leveraged capital structure Ei.e.- a greater percentage of debt in the capital structure)- the weighted average cost of capital would A) increase. &) remain unchanged. #) decrease. >) not be able to be determined. Answer # Topic Deighted Average #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills 3) As the volume of financing increases- the costs of the various types of financing will ========- ======== the firm+s weighted average cost of capital. A) increase- lowering &) increase- raising #) decrease- lowering >) decrease- raising Answer & Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines !eflective thin(ing s(ills
6
Table 9.1
A firm has determined its optimal capital structure which is composed of the following sources and target mar(et value proportions.
Debt: The firm can sell a 10year- G1-333 par value- 6 percent bond for G93. A flotation cost of
percent of the face value would be required in addition to the discount of G,3. Preferred Stock: The firm has determined it can issue preferred stoc( at G6 per share par value. The stoc( will pay a G13 annual dividend. The cost of issuing and selling the stoc( is G* per share. Common Stock: A firm+s common stoc( is currently selling for G1: per share. The dividend expected to be paid at the end of the coming year is G1.6,. 5ts dividend payments have been growing at a constant rate for the last four years. 8our years ago- the dividend was G1.3. 5t is expected that to sell- a new common stoc( issue must be underpriced G1 per share in floatation costs. Additionally- the firm+s marginal tax rate is ,3 percent. 1) The firm+s before0tax cost of debt is ========. E$ee Table 9.1) A) 6.6 percent &) 13. percent #) 11. percent >) 1.6 percent Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills ) The firm+s after0tax cost of debt is ========. E$ee Table 9.1) A) *. percent &) ,. percent #) : percent >) :.1* percent Answer & Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
:
*) The firm+s cost of preferred stoc( is ========. E$ee Table 9.1) A) 6. percent &) :.* percent #) 1*.* percent >) 1*.9 percent Answer > Topic #ost of 4referred $toc( %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills ,) The firm+s cost of a new issue of common stoc( is ========. E$ee Table 9.1) A) 6 percent &) 9.3: percent #) 1*. percent >) 1,., percent Answer # Topic #ost of Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills ) The firm+s cost of retained earnings is ========. E$ee Table 9.1) A) 13. percent &) 1*.9 percent #) 1., percent >) 1*. percent Answer # Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills ) The weighted average cost of capital up to the point when retained earnings are exhausted is ========. E$ee Table 9.1) A) 6. percent &) :. percent #) 13., percent >) 11.3 percent Answer > Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
9
6) The weighted average cost of capital after all retained earnings are exhausted is ====== ==. E$ee Table 9.1) A) 1*. percent &) 11.3 percent #) 11. percent >) 13., percent Answer # Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills Table 9.2
A firm has determined its optimal structure which is composed of the following sources and target mar(et value proportions.
Debt: The firm can sell a 10year- G1-333 par value- : percent bond for G1-33. A flotation cost
of percent of the face value would be required in addition to the premium of G3. Common Stock: A firm+s common stoc( is currently selling for G6 per share. The dividend expected to be paid at the end of the coming year is G. 5ts dividend payments have been growing at a constant rate for the last five years. 8ive years ago- the dividend was G*.13. 5t is expected that to sell- a new common stoc( issue must be underpriced G per share and the firm must pay G1 per share in flotation costs. Additionally- the firm has a marginal tax rate of ,3 percent. :) The firm+s before0tax cost of debt is ========. E$ee Table 9.) A) 6.6 percent &) 13. percent #) 11. percent >) 1.6 percent Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
*3
9) The firm+s after0tax cost of debt is ========. E$ee Table 9.) A) ,. percent &) percent #) 6 percent >) 6.6 percent Answer A Topic #ost of ong0Term >ebt %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills *3) The firm+s cost of a new issue of common stoc( is ========. E$ee Table 9.) A) 13. percent &) 1,.* percent #) 1.6 percent >) 16.3 percent Answer > Topic #ost of Bew #ommon $toc( "quity %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills *1) The firm+s cost of retained earnings is ========. E$ee Table 9.) A) 13. percent &) 1,.* percent #) 1.6 percent >) 16.3 percent Answer # Topic #ost of !etained "arnings %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills *) The weighted average cost of capital up to the point when retained earnings are exhausted is ========. E$ee Table 9.) A) .: percent &) 6.6 percent #) 9.,, percent >) 11.9 percent Answer # Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
*1
**) Assuming the firm plans to pay out all of its earnings as dividends- the weighted average cost of capital is ========. E$ee Table 9.) A) 9. percent &) 13.9 percent #) 11. percent >) 1.1 percent Answer A Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
*
Table 9. !alance Sheet General Talc "ines December 1# 2$$
*,)
'iven this after0tax cost of each source of capital- the weighted average cost of capital using boo( weights for 'eneral Talc ines is ========. E$ee Table 9.*) A) 11. percent &) 1. percent #) 1. percent >) 16. percent Answer & Topic Deighted Average #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
**
*) 'eneral Talc ines has compiled the following data regarding the mar(et value and cost of the specific sources of capital.
ar(et price per share of common stoc( G3 ar(et value of long0term debt G9:3 per bond The weighted average cost of capital using mar(et value weights is ========.E$ee Table 9.*) A) 11.6 percent. &) 1*. percent. #) 1.: percent. >) 16. percent. Answer # Topic Deighted Average #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
*,
*) A firm has determined its optimal capital structure- which is composed of the following sources and target mar(et value proportions
Debt: The firm can sell a 30year- G1-333 par value- 9 percent bond for G9:3. A flotation cost of
percent of the face value would be required in addition to the discount of G3. Preferred Stock: The firm has determined it can issue preferred stoc( at G per share par value. The stoc( will pay an G:.33 annual dividend. The cost of issuing and selling the stoc( is G* per share. Common Stock: The firm+s common stoc( is currently selling for G,3 per share. The dividend expected to be paid at the end of the coming year is G.36. 5ts dividend payments have been growing at a constant rate for the last five years. 8ive years ago- the dividend was G*.,. 5t is expected that to sell- a new common stoc( issue must be underpriced at G1 per share and the firm must pay G1 per share in flotation costs. Additionally- the firm+s marginal tax rate is ,3 percent. #alculate the firm+s weighted average cost of capital assuming the firm has exhausted all retained earnings. Answer r i L .H r p L 1.9H r n L 1.*,H r a L E3.*)E.) M E3.3)E1.9) M E3.)E1.*,) L 1.3H Topic Deighted arginal #ost of #apital %uestion $tatus !evised AA#$& 'uidelines Analytic s(ills
*
