Compute the weighted average cost of capital given the information below. Book Value of Debt $2,500,000,000 Market Value of Debt $2,750,000,000 Book Value of Equity $3,250,000,000 Market Value of Equity $4,000,000,000 Dividend Milberg has just paid $3.25 Current stock price $40.50 Growth rate of dividends 6% Bond information Coupon rate = 4%, maturity = 20 years, maturity value =$1,000 and the current price is $985.25. Assume interest is paid semiannually. Flotation cost of equity 4% Flotation cost of debt 2%
Cost of Capital
Shareholders and investors who invest into the capital of the firm desire to have a suitable return on their investment funding. The cost of capital reflects what shareholders expect. It is a discount rate for converting expected cash flow into present cash flow.
Capital Structure
Capital structure is the combination of debt and equity employed by an organization in order to take care of its operations. It is an important concept in corporate finance and is expressed in the form of a debt-equity ratio.
Weighted Average Cost of Capital
The Weighted Average Cost of Capital is a tool used for calculating the cost of capital for a firm wherein proportional weightage is assigned to each category of capital. It can also be defined as the average amount that a firm needs to pay its stakeholders and for its security to finance the assets. The most commonly used sources of capital include common stocks, bonds, long-term debts, etc. The increase in weighted average cost of capital is an indicator of a decrease in the valuation of a firm and an increase in its risk.
- Compute the weighted average cost of capital given the information below.
|
Book Value of Debt |
$2,500,000,000 |
|
Market Value of Debt |
$2,750,000,000 |
|
Book Value of Equity |
$3,250,000,000 |
|
Market Value of Equity |
$4,000,000,000 |
|
Dividend Milberg has just paid |
$3.25 |
|
Current stock price |
$40.50 |
|
Growth rate of dividends |
6% |
|
Bond information |
Coupon rate = 4%, maturity = 20 years, maturity value =$1,000 and the current price is $985.25. Assume interest is paid semiannually. |
|
Flotation |
4% |
|
Flotation cost of debt |
2% |
Questions 2 through 8 use the following information.
Milberg Golf has decided to sell a new line of golf club. The clubs will sell for $1,100 per set and have a variable cost of 80% of revenues per set. The company has spent $450,000 for a marketing study that determined the company will sell 80,000 sets per year for seven years. The company also plans to offer a line of golf balls, which are expected to sell for $45/dozen and have a variable cost of $15. The company expects to sell 100,000 boxes (of a dozen) balls each year. The fixed costs each year will be $15,200,000. The company has also spent $1,000,000 on research and development for the new clubs. The plant and equipment required will cost $20,500,000 and will be
- Compute the depreciation for each year.
- Find the after tax salvage value for the equipment.
- Construct the proforma income statement.
- Calculate
NPV . - Calculate
IRR . - Calculate the profitability index.
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