Financial planning my ppt @ bec dom s

1. Cost of Capital

7. The Weighted Average Calculation Example 13.1 7 Q: Calculate the WACC for the Zodiac Company given the following information about its capital structure. A: First calculate the capital structure weights based on the values given. For example the weight of debt is $60,000  $200,000 = 30%. Next, each component’s cost is multiplied by its weight and the results are summed as shown: Example $200,000 14 90,000 Common stock 11 50,000 Preferred Stock 9% $60,000 Debt Cost Value Capital Component WACC = 14 11 9% Cost 100% 45% 25% 30% Weight 11.75 % $200,000 6.30% 90,000 Common stock 2.75% 50,000 Preferred Stock 2.70% $60,000 Debt Value Capital Component

11. Developing Market-Value-Based Capital Structures Example 13.2 11 Q: The Wachusett Corporation has the following capital situation. Debt: Two thousand bonds were issued five years ago at a coupon rate of 12%. They had 30-year terms and $1,000 face values. They are now selling to yield 10%. Preferred stock: Four thousand shares of preferred are outstanding, each of which pays an annual dividend of $7.50. They originally sold to yield 15% of their $50 face value. They're now selling to yield 13%. Equity: Wachusett has 200,000 shares of common stock outstanding, currently selling at $15 per share. Develop Wachusett's market-value-based capital structure . Example

12. Developing Market-Value-Based Capital Structures Example 13.2 12 A: The market value of each capital component is the current price of each security multiplied by the number outstanding. The price of Wachusett's bonds in the market must be determined. We know the bonds have 25 years remaining until maturity, pay interest of $120 annually ($60 semi-annually) and are yielding 10% annually (5% semi-annually). Thus, each bond is selling for $1,182.55 in the market, calculated as shown below. Because there are 2,000 bonds outstanding, the market value of debt is $1,182.55 x 2,000 = $2,365,100 Example P b = PMT[PVFA k,n ] + FV[PVF k,n ] = $60[PVFA 5,50 ] + $1,000[PVF 5,50 ] = $60(18.2559) + $1,000(0.0872) = $1,182.55

13. Developing Market-Value-Based Capital Structures Example 13.2 13 The firm's preferred stock represents a perpetuity that pays $7.50 annually and is yielding 13%. Thus, the value of each share of preferred stock is $7.50 / .13 = $57.69 And the total market value of Wachusett's preferred stock is $57.69 x 4,000 = $230,760 Each share of Wachusett's common stock is trading at $15, thus the total market value of the firm's equity is $15 x 200,000 shares = $3,000,000 Next summarize and calculate the component weights : Example 100.0% $5,595,860 53.6 3,000,000 Equity 4.1 230,760 Preferred 42.3% $2,365,100 Debt

16. The Cost of Preferred Stock Example 13.4 16 Q: The preferred stock of the Francis Corporation was issued several years ago with each share paying 6% of a $100 par value. Flotation costs on new preferred are expected to average 11% of the funds raised. (a) What is the cost of preferred if the return on similar issues is now 9%? (b) Calculate the cost of preferred if shares are selling at $75. A: (a) and (b) ask the same question in different situations and with different given information. In (a) we have the market return, and in (b) we have the information needed to calculate it . (a) cost of preferred = k p / (1 - f) = 9% / (1 - .11) = 10.1%. (b) cost of preferred = D p / (1 – f) P p = $6 / (1 - .11) $75 = 9.0% Example

26. 26 The Cost of New Common Stock Example 13.8 Example Q. Suppose Periwinkle Inc. of Example 13.6 had to raise capital beyond that available from retained earnings. What would be its cost of equity from new stock if flotation costs were 12% of money raised? A. Write equation 13.9 and substitute from Example 13.6, including a 12% flotation cost. cost of new equity = ke

29. The Break in MCC When Retained Earnings Run Out 29

30. The Break in MCC When Retained Earnings Run Out 30

32. Brighton’s MCC Schedule 32

35. MCC Schedule and IOS Figure 13.2 35 Projects A, B and C should be undertaken because their expected returns exceed the expected costs.

37. 37 Target Capital Structure : Debt 20% Preferred Stock 10% Equity 70% Other information : Baxter's marginal income tax rate is 40%. Flotation costs average 10% for stocks. Short term treasury bills currently yield 7%. An average stock currently yields a return of 13.5% Baxter's beta is 1.4. The firm is expected to grow at 6.5% indefinitely. The annual dividend paid last year was $1.10 per share. Next year's business plan includes earnings of $2 million of which $1.4 million will be retained. Comprehensive Example Baxter Metalworks Inc Example 13.9