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  • 1. Module 13E WEIGHTED COST OF CAPITAL OBJECTIVE: Cost of capital, the firm's cost of obtaining funds, can be used to evaluate a company's capital projects. The purpose of this program is to develop a company's weighted average cost of capital measure. Although the formula employed is not the only acceptable formula, it is widely used. INPUTS (will appear in blue): The calculation assumes that a company has three means of long-term financing, each with a unique cost: a) Bonds: The cost of the bonds is the after-tax yield to maturity. b) Preferred Stock: The cost of preferred stock is the dividend yield. c) Common Stock: The Gordon dividend growth model, which states that the cost of equity is equal to its dividend yield plus the growth rate, is used to calculate the cost of common stock. 1) In order to calculate the cost of the individual financing instruments, enter the requested information in cells G35, G36, G38, G39, G41, G42, G43 and G44. 2) To obtain the market values of each component, the market price must be multiplied by the number of shares and bonds outstanding. The number of each must be entered in cells G34, G37 and G40. CALCULATING THE COST OF CAPITAL Sample data have been entered as an example. In column G, enter the items required below: 1. Number of bonds outstanding 10000 2. Market price per bond 920.00 3. Current market bond yield (in decimals) 0.095 4. Number of shares of preferred stock 20000 5. Market price of preferred stock 75.00 6. Preferred stock dividend (in $) 7.00 7. Number of shares of common stock 1000000 8. Market price of common stock 25.00 9. Current dividend per common share (in $) 1.25 10. Common stock dividend growth rate (in decimals) 0.070 11. Income tax rate (in decimals) 0.40 Calculations of individual costs: Bonds 5.7% Preferred Stock 9.3% Common Stock 12.4%
  • 2. Calculation of weighted cost of capital: MARKET COMP. WEIGHT. VALUE WEIGHT COST COST Bonds 9200000 25.8% 5.7% 1.47% Preferred Stock 1500000 4.2% 9.3% 0.39% Common Stock 25000000 70.0% 12.4% 8.65% Total 35700000 100.0% 10.51%