Question

what is r n (new common stock issue)?

what is r p (new preferred stock issue)?

what is r d (before tax rate on bonds)?

what is r i (after tax rate on bonds)?

what is r r (retained earnings)?

Company XYZ will pay in exactly one year $4 in dividends per share to its common stock shareholders. In exactly one year it will pay $2 in dividends per share to holders of its preferred stock. The flotation costs on a per share basis for common stock are $7 and for preferred stock are $2. Common stock dividends are expected to grow 5% each year preferred stock dividends will not change. The company can issue $1,000-par-value, 12% coupon, ten-year bonds that can be sold for $950 each. Flotation costs for each bond equal $30. The current per share prices for common stock and preferred stock are $19 and $11, respectively. The company's tax rate is 40%. The company's target capital structure is 70% retained earnings, 20% new preferred stock issues, and 10% new debt (bonds).

Answer 1

Determine the new common stock issue (Rn): ( D1 +Growth rate Price after flotation $4 5% 519-87) 54 + 5% $12 = $0.333+0.05 = 38.33% Therefore, the new common stock issue (Rn) is 38.33% 2) Determine the new preferred stock issue (Rp): Rp=1_ Dividend Price after flotation _ $2 = 11-S2) = 22.22% Therefore, the new preferred stock issue (Rn) is 22.22%

3) Determine the before tax rate bonds (Rd): Therefore, the before tax rate bonds (Rd) is 22.22% Determine the after tax rate on bonds (Ri): Ri = Before tax rate bonds (1 - Tar rate) = 13.5%x (1-40%) = 13.5% X(1 -0.4) = 13.5% 0.6 = 8.10% Therefore, the after tax rate on bonds (Ri) is 8.10%

5) Determine the retained earnings (Rr): Rn = ( pode+Growth rate 54 +5% $19" = $0.2105+0.05 = 26.05% Therefore, the retained eamings (Rr) is 26.05%