“BLACKFRIDAY” company is planning an expansion of its existingproduction capacity. The firm hired you as a consultant for theexpansion project. Since you are a savvy project manager, you firstdecided to estimate the firm’s cost of capital based on theavailable data.
Data:
- Tax Rate: 40%
- Bond: Coupon rate 12%, Maturity Years 15, Present value$1150
- Preferred Stock: Dividend rate 10%, Par Value $100, PresentValue $111 Common Stock: Market price $50, D0=$4.20,Dividend growth 5%, Beta 1.2, Treasury Bond yield 7%, Market riskpremium 6%. When the firm uses Bond-yield+Premium method, the riskpremium is 4%.
- Capital structure of ABC is as follows;
- Debt 30%, Common Equity 60%, Preferred Stock 10%
Next, you asked your assistant “Mr.COUPON” to give his opinionon the following burning questions;
- What is your final Cost of Equity?
- Do you agree that the cost of new equity is cheaper than thecost of retained earnings? Why?
- What is flotation cost and how do you adjust it?
- If the flotation cost of new stock issue is 10%, what is theestimated cost of equity considering the 10% flotation cost underDCF method you calculated in question iv above?(cost of equity using discounted cashflow technique is 15.50%)
