Exam 9: The Cost of Capital

Grandview Inc.will issue new common stock to finance an expansion.The existing common stock just paid a $1.50 dividend,and dividends are expected to grow at a constant rate 8% indefinitely.The stock sells for $45,and flotation expenses of 5% of the selling price will be incurred on new shares.What is the cost of retained earnings for Grandview?

Johnson Production Company paid a dividend yesterday of $3.50 per share.The dividend is expected to grow at a constant rate of 10% per year.The price of KayCee's common stock today is $40 per share.If KayCee decides to issue new common stock,flotation costs will equal $4.00 per share.KayCee's marginal tax rate is 35%.Based on the above information,the cost of retained earnings is

Office Clean Corporation has a capital structure consisting of 30 percent debt and 70 percent common equity.Assuming the capital structure is optimal,what amount of total investment can be financed by a $35 million addition to retained earnings without selling new common stock?

The cost of internal common equity is already on an after-tax basis since dividends paid to common stockholders are not tax deductible.

In order to create value,a corporation must earn a rate of return on its invested capital that is higher than the market's required rate of return on that invested capital.

The firm's cost of capital may also be referred to as the firm's opportunity cost of capital.

The cost of new preferred stock is equal to

For a typical corporation,which of the following capital structures will result in the lowest weighted average cost of capital?

Using the weighted cost of capital as a cutoff rate assumes that the riskiness of the project being evaluated is similar to the riskiness of the company's existing assets.

Gibson Industries is issuing a $1,000 par value bond with an 8% annual interest coupon rate that matures in 11 years.Investors are willing to pay $972,and flotation costs will be 9%.Gibson is in the 34% tax bracket.What will be the after-tax cost of new debt for the bond?

Because investors like dividends,the higher the company's dividend growth rate,the lower the company's cost of common equity.

Which of the following causes a firm's cost of capital (WACC)to differ from an investor's required rate of return on the company's common stock?

Using the weighted average cost of capital as the required rate of return for every project will

A corporation's cost of common equity may be estimated using either a dividend valuation model or the capital asset pricing model.

Donner,Inc.will finance a proposed investment by issuing new securities while maintaining its optimal capital structure of 60% debt and 40% equity.The firm can issue bonds at a price of $950.00 before $15 flotation costs.The 10-year bonds will have an annual coupon rate of 8% and a face value of $1,000.The company can issue new equity at a before-tax cost of 16% and its marginal tax rate is 34%.What is the appropriate cost of capital to use in analyzing this project?

A short-term T-bill's rate of return should be used in the CAPM formula to determine the cost of equity capital regardless of the length of the project under consideration.

WineCellars Inc.currently has a weighted average cost of capital of 12%.WineCellars has been growing rapidly over the past several years,selling common stock in each year to finance its growth.However,due to difficult economic times this year,WineCellars decides to cut its dividend and increase its retained earnings so that the common equity portion of its capital structure will include only retained earnings and no new common stock will be sold.WineCellars' weighted average cost of capital this year should be

Which of the following differentiates the cost of retained earnings from the cost of newly-issued common stock?

Toto and Associates' preferred stock is selling for $27.50 a share.The firm nets $25.60 after issuance costs.The stock pays an annual dividend of $3.00 per share.What is the cost of existing,and new,preferred stock respectively?

QRM,Inc.'s marginal tax rate is 35%.It can issue 10-year bonds with an annual coupon rate of 7% and a par value of $1,000.After $12 per bond flotation costs,new bonds will net the company $966 in proceeds.Determine the appropriate after-tax cost of new debt for the firm to use in a capital budgeting analysis.