Question 1 Knick Inc. has two bonds outstanding, and both pay semi-annual coupons. The first bond has 18 years to maturity, 16% coupon rate, and $720,000 face value. It is trading at 110 (110% of face value). The second bond has 10 years to maturity, 8% coupon rate, and $880,000 face value. It is trading at 13.5% YTM. Knick has 150,000 shares outstanding with beta of 1.25. The expected dividend per share is $4 next year and will grow at 2% per year. The market return is 15% and the risk-free rate is 3%. Corporate tax is 25%. a) Calculate the cost of equity and the equity value. b) Calculate the after-tax cost of debt. c) Calculate the WACC. d) Estimate the unlevered beta. e) Assume that Knick changes its debt-to-equity ratio to 0.2 and its cost of debt decreases 40 bps, estimate its new cost of equity and WACC.
Question 1 Knick Inc. has two bonds outstanding, and both pay semi-annual coupons. The first bond has 18 years to maturity, 16% coupon rate, and $720,000 face value. It is trading at 110 (110% of face value). The second bond has 10 years to maturity, 8% coupon rate, and $880,000 face value. It is trading at 13.5% YTM. Knick has 150,000 shares outstanding with beta of 1.25. The expected dividend per share is $4 next year and will grow at 2% per year. The market return is 15% and the risk-free rate is 3%. Corporate tax is 25%. a) Calculate the cost of equity and the equity value. b) Calculate the after-tax cost of debt. c) Calculate the WACC. d) Estimate the unlevered beta. e) Assume that Knick changes its debt-to-equity ratio to 0.2 and its cost of debt decreases 40 bps, estimate its new cost of equity and WACC.
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Knick Inc. has two bonds outstanding, and both pay semi-annual coupons. The first bond has 18 years to
maturity, 16% coupon rate, and $720,000 face value. It is trading at 110 (110% of face value). The
second bond has 10 years to maturity, 8% coupon rate, and $880,000 face value. It is trading at 13.5%
YTM.
Knick has 150,000 shares outstanding with beta of 1.25. The expected dividend per share is $4 next year
and will grow at 2% per year. The market return is 15% and the risk-free rate is 3%. Corporate tax is 25%.
a) Calculate the cost of equity and the equity value.
b)
Calculate the after-tax cost of debt.
c)
Calculate the WACC.
d)
Estimate the unlevered beta.
e) Assume that Knick changes its debt-to-equity ratio to 0.2 and its cost of debt decreases 40 bps,
estimate its new cost of equity and WACC.
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Step 1: Define WACC.
VIEWStep 2: Compute the cost of equity and equity value.
VIEWStep 3: Compute the after-tax cost of debt.
VIEWStep 4: Compute the WACC of the firm.
VIEWStep 5: Estimate the unlevered beta of the company.
VIEWStep 6: Compute the WACC of the firm given the debt-to-equity ratio.
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