Question

3. ABC, Inc. is looking at raising additional capital for a future project. The project is expected to provide a return on investment of 13. In order for ABC, Inc. to determine whether this project is worth investing in, it must first determine the cost of the capital it will use to finance the project (20 total points) a. The firm's current stock price is $45 and it has 4 million shares of stock outstanding. The firm also has $30 million of preferred stock and 570 million of debt. Calculate the weights of each capital component. (2 points) Val Short 180 Vai PMS I : 70 qual , 770 6. The firm is looking at issuing a new 30-year bond that pays an annual coupon of 8% with a flotation cost of 2%. The bond is expected to sell at its par value of $1,000. The firm's tax rate is 40%. Calculate the ATr.. (4 points) c. The firm will have to pay the underwriter a 10% flotation cost for the new equity it will raise. The firm just paid out a dividend of $4.22 with an expected growth rate of 4.5%. Calculate the re(4 points) d. The firm expects its preferred stocks to sell for $112.55. The par value of the preferred stock will be $100 with a 12% annual dividend. The flotation cost that will be paid to the underwriter will be 4%. Calculate the fa- (4 Points) e. Assuming that the firm's current market value is their target capital structure, what is the firm's WACC? (4 points) 1. Should the firm take on this investment based on the cost of the capital that it will use to fund the project? Why? (2 points)

Answer 1

A-Market value weights
source	value	weight= value/total
debt	70	0.246683
preferred stock	33.765	0.119
common stock	180	0.634
total	283.765
b-before tax cost of debt	coupon payment/net proceed	8.16%
coupon payment	1000*8%	80
net proceeds = par value*(1-flotation cost)	1000*(1-.02)	980
after tax cost of debt = before tax cost of debt*(1-tax rate)	8.16*(1-.4)	4.90
d-cost of preferred stock	preferred stock/net proceeds	11.11%
preferred dividend	100*12%	12
net proceeds = par value*(1-flotation cost)	112.55*(1-.04)	108.048
c-cost of common stock = (expected dividend/net proceeds)+growth rate	(4.4099/40.5)+4.5%	15.39%
expected dividend = current dividend*(1=growth rate)	4.22*1.045	4.4099
net proceeds = market price*(1-flotation cost)	45*(1-.1)	40.5
E-WACC
source	market value	weight= value/total	component cost	weight*component cost
debt	70	0.246683	4.90	1.20776
preferred stock	33.765	0.1189893	11.11	1.321971
common stock	180	0.6343277	15.39	9.762303
total	283.765
WACC =sum of weight*component cost				12.29
f-Yes company should undertake the project as required rate of return is 12.29% while rate of return of f- project is 13%.