0 million shares and 200,000 bonds outstanding at par value $15,000. In addition, it has $500 million in short-term debt from bank. The target capital structure ratio is 70 percent equity, 20 percent long-term debt, and 10 percent short-term debt. The current capital structure has temporarily moved slightly away from the target ratio. The company’s shares currently trade at $50 with a beta of 1.30. The book value of the shares is $45. The annual coupon rate of the bonds is 10 percent, they trade at 105 percent of par, and they will mature in seven years. Interest on the short-term debt is 10 percent. The current yield on ten-year government bonds is 7 percent. The market risk is 15 percent. The corporate tax rate applicable is expected to be 25 percent.
You have been asked to estimate the cost of capital for ABC Corporation. The company
has 10 million shares and 200,000 bonds outstanding at par value $15,000. In addition, it has
$500 million in short-term debt from bank. The target capital structure ratio is 70 percent
equity, 20 percent long-term debt, and 10 percent short-term debt.
The current capital structure has temporarily moved slightly away from the target ratio. The
company’s shares currently trade at $50 with a beta of 1.30. The book value of the shares is
$45. The annual coupon rate of the bonds is 10 percent, they trade at 105 percent of par, and
they will mature in seven years. Interest on the short-term debt is 10 percent. The current
yield on ten-year government bonds is 7 percent. The market risk is 15 percent. The corporate
tax rate applicable is expected to be 25 percent.
What would be the appropriate cost of capital for the ABC Corporation? Explain!
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