Question

The treasurer of Kelly Bottling Company (a corporation) currently has $260,000 invested in preferred stock yielding 10 percent. He appreciates the tax advantages of preferred stock and is considering buying $260,000 more with borrowed funds. The cost of the borrowed funds is 12 percent. He suggests this proposal to his board of directors. They are somewhat concerned by the fact that the treasurer will be paying 2 percent more for funds than the company will be earning on the investment Kelly Bottling is in a 30 percent tax bracket, with dividends taxed at 10 percent. a. Compute the amount of the aftertax income from the additional preferred stock if it is purchased. (Do not round intermediate calculations and round your answer to the nearest whole dollar.) Aftertax income b. Compute the aftertax borrowing cost to purchase the additional preferred stock. (Do not round intermediate calculations and round your answer to the nearest whole dollar.) Aftertax borrowing cost

Answer 1

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11 Q ENG 05:02 30-07-2020 99+ 31 X OC446 . NY NZ ОА OB ОС OD OE OF OG OH a After tax income from purchase of preferred stock 428 429 430 431 432 433 dividend income = 26000 [120000 x 6%] now 70% dividend is exempt, so only 30% income will be taxed at 10% tax on preferred stock dividend = 780 [26000 x 30% x 10%] 434 After tax income = 25220 435 436 437 b After tax borrowing cost = 21840 (=260000*12%*(1-0.3)] с YES 438 439 440 441 d unfavourable Because increase in dividend yield will lower the value of preferred stock and secondly borrowing cost may go up if interest rate is not fixed one 442 443 444 445 446 447 448 449 450 451 DGM beta VAR port future INDEX WACC HEDGE INTL CAP BUD Sheet11 SANDRINE LEASING PORTFOLO Q DIR right clean ...