Question

The future earnings, dividends, and common stock price of Callahan Technologies Inc. are expected to grow 4% per year. Callahan's common stock currently sells for $29.25 per share; its last dividend was $2.50; and it will pay a $2.60 dividend at the end of the current year.

1. Using the DCF approach, what is its cost of common equity? Do not round intermediate calculations. Round your answer to two decimal places.

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2. If the firm's beta is 1.1, the risk-free rate is 6%, and the average return on the market is 14%, what will be the firm's cost of common equity using the CAPM approach? Round your answer to two decimal places.

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3. If the firm's bonds earn a return of 12%, based on the bond-yield-plus-risk-premium approach, what will be r_s? Use the midpoint of the risk premium range discussed in Section 10-5 in your calculations. Round your answer to two decimal places.

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4. If you have equal confidence in the inputs used for the three approaches, what is your estimate of Callahan's cost of common equity? Do not round intermediate calculations. Round your answer to two decimal places.

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eBook Empire Electric Company (EEC) uses only debt and common equity. It can borrow unlimited amounts at an interest rate of rd = 9% as long as it finances at its target capital structure, which calls for 45% debt and 55% common equity. Its last dividend (D0) was $1.75, its expected constant growth rate is 5%, and its common stock sells for $24. EEC's tax rate is 25%. Two projects are available: Project A has a rate of return of 15%, and Project B's return is 9%. These two projects are equally risky and about as risky as the firm's existing assets. What is its cost of common equity? Do not round intermediate calculations. Round your answer to two decimal places.   % What is the WACC? Do not round intermediate calculations. Round your answer to two decimal places.   % Which projects should Empire accept? -Select-Project AProject BItem 3

Answer 1

Question 1

Part a & b

B7+B6*(B8-B7) X В9 A В Growth Rate 1 0.04 2 Current Stock Price 29.25 Next Dividend 2.6 -В1+(в3/B2) 4 Cost of equity based on DCF 5 1.1 6 Beta 7 Risk Free Rate 0.06 8 Market Return 0.14 B7+B6*(B8-B7) 9 Cost of equity using CAPM

fix -B7+B6* (B8-B7) X В9 A В 1 Growth Rate 4% $29.25 2 Current Stock Price 3 Next Dividend $ 2.60 4 Cost of equity based on DCF 12.89% 6 Beta 1.1 7 Risk Free Rate 6% 8 Market Return 14% 9 Cost of equity using CAPM 14.80%

Part c.

The premium as per Section 10-5 is not provided.

Part d.

If there is equal confidence in all the 3 methods, an average of all the 3 will be taken.

Question 2

B2*B1* (1-B7)+B3*B9 B10 А В 0.09 1 Interest rate 2 Weight of Debt 3 Weight of Equity 0.45 0.55 4 Last Dividend 1.75 5 Grwoth rate 0.05 Current Stock Price 6 24 0.25 7 Tax rate B4*(1+B5) |B5+(B8/B6) - B2*B1*(1-B7)+B3*B9 8 Next Dividend Cost of Equity 9 10 WACC

fix =B2*B1*(1-B7)+B3* B9 B10 А В 1 Interest rate 9% 2 Weight of Debt 45% Weight of Equity 3 55% $ 4 Last Dividend 1.75 5 Grwoth rate 5% $ Current Stock Price 6 24.00 7 Tax rate 25% $ 8 Next Dividend 1.84 Cost of Equity 9 12.66% 10 WACC 10.00%

Part c.

Accept Project A only as the return of Project A is more than the WACC. Reject Project B as its return is less than WACC.