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The corporate treasurer of Gonic Manufacturing Company expects the company to grow at 4% in the future. She notes that debt will have an interest rate of 4% interest and the corporate tax rate is 35%. She believes that debt will be a cheaper option to finance the growth. The current market price per share of its common stock is $19, and the expected dividend in one year is $0.75 per share. Calculate the cost of the company’s retained earnings and check if the treasurer’s assumption is correct.

The risk-free rate on 30 year U.S. Treasury bonds is 2.75% and the expected rate of return on the overall stock market is 7%. The BOW company has a beta of 1.4. What is the cost of equity?

Les argues that the 10 year note is a better risk free rate at 2%. He also argues that the stock market is too high and the expected return is really only 5%. Assume that he is correct. The company has a beta of 1.4. What is the cost of equity?

A company, East  Berwick Enterprises, has a capital structure as follows:
Total Capital $1,000,000
Debt $400,000
Preferred Stock $100,000
Common Equity $500,000


What would be the minimum expected return from a new capital investment project to satisfy the suppliers of the capital? Assume the applicable tax rate is 40%, interest on debt is 5%, flotation cost per share of preferred stock is $0.75, and flotation cost per share of common stock is $4. The preferred and common stocks are selling in the market for $24 and $130 a share respectively, and they are expected to pay a dividend of $1.50 and $4.50, respectively, in one year. The company’s dividends are expected to grow at 5% per year. The firm would like to maintain the existing capital structure to finance the new project.
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1. If you borrow money to buy a car at 6% what is your cost of debt?

2. If you borrow money to buy a home at 4%, what is your cost of debt?
Assume that you are single and your taxable income is $42,000 ATkd = kd x (1- Tax Rate)
That mean your tax rate is 25%
Interest T 1-T
Cost 25% 75%
Cost of debt after tax 3.00%
3. If your company has common equity with a stock price of $75 and an expected dividend ks = D1 / P0 + g
of $.75, what is the cost of equity if the growth is 7%?
D1 P0 g
$0.75 $75.00 7%

ks 8.00%

4. Calculate the Cost of Common Equity if the Beta is .8, the risk free rate is 2% and ks = kRF + (kM – kRF) β
the expected return on the market is 8%.

Beta kRF kM kRF Market Premium
0.8 2% 8% 2% 6%


5. If your company has common equity with a stock price of $75 and an expected ks = D1 / (P0 – f) + g
dividend of $.75, what is the cost of equity if the growth is 7%?
Assume that floatation cost is $1.50
D1 P0 g f
$0.75 $75.00 7% $1.50

K 1.02% 7% 8.02%
6. What is the cost of a preferred stock that sells at $50 per share kp = D / P
and has a dividend of $2.50?
$2.50 $50.00
7. What is the cost of a preferred stock that sells at $50 per share kp = D / (P – f)
and has a dividend of $2.50 and a floatation cost of $.50?
D P f
$2.50 $50.00 $0.50

8. What are the weights for the following capital structure?

Debt $30,000 30%
Preferred $5,000 5%
Common $65,000 65%
Total $100,000 100%

9. What is the WACC for the company above for new common and
and new Preferred stock?
Debt 3.00% 30% 0.900%
Preferred 5.05% 5% 0.253%
Common 8.02% 65% 5.213%
10. What discount rate should you use for PV, NPV and FV work?

11. UAL is considering buying Peoples Express Airlines for $450 million
UAL expects to earn $50 million per month on the new company
Set up a cash flow time line Month Cash Flow Cumulative
What is the payback? 0 -$450 -$450
1 $50 -$400
2 $50 -$350
3 $50 -$300
4 $50 -$250
5 $50 -$200
6 $50 -$150
7 $50 -$100
8 $50 -$50
9 $50 $0 payback in month



12. If Exxon Mobil stock sells at $90 D0 = $3.00
and just paid a dividend of $3.00
What is the dividend yield?
$3.00 $90 3.33%

13. If Exxon Mobil has an expected growth rate of 10%
What will be the expected dividend? D1 = ????
g 1+g
10% 110% $3.30

14. In 1985 Michigan Bell Telephone Company
had a bond that paid 15% Interest
How Much interest would be paid each year?
If the bond would pay principal of $1,000 in 1995
Rate Principal
15% $1,000 $150
15. If the bond above would pay face value of
$1000 in 1985, and it sold for $1200, what was the
yield to maturity?

10 $150 ($1,200) $1,000 11.53%
16. On October 4, 2015, your purchased a 10 year
Treasury Bond that pays 2% interest per year
You Paid $1,000 and expected to get $1,000
in October 2125.
If the current interest rate is 2.2%
What should the bond sell for today?
PMT NPER PV Rate Future Value
$20.00 10 ($982.22) 2.20% $1,000

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