Exam 13: The Cost of Capital

A firm has outstanding debt with a coupon rate of 5%, ten years maturity, and a price of $1,000. What is the after-tax cost of debt if the marginal tax rate of the firm is 35%?

Assume the total market value of General Motors (GM)is $10 billion. GM has a market value of $6 billion of equity and a face value of $12 billion of debt. What are the weights in equity and debt that are used for calculating the WACC?

Assume SAP Inc. received a $2 million grant under its Small Business Innovation program. SAP invested the grant money and developed a system to remove metal contaminants from storm water in shipyards. The firm estimates that each shipyard spends $600,000 a year on storm water clean-up efforts. If SAP is able to sign up and retain four shipyards from the first year onwards, what is the present value (PV)of the project (net of investment)if the cost of capital for SAP is 14% per year? Assume a cost of operations and other costs for SAP equal 60% of revenue.

A firm raised all its capital via equity rather than debt. Such a firm is also referred to as a(n)________ firm.

Assume General Motors has a weighted average cost of capital of 9%. GM is considering investing in a new plant that will save the company $20 million over each of the first two years, and then $10 million each year thereafter. If the investment is $100 million, what is the net present value (NPV)of the project?

Assume JUP has debt with a book value of $20 million, trading at 120% of par value. The bonds have a yield to maturity of 7%. The firm's book value of equity is $16 million, and it has 2 million shares trading at $19 per share. The firm's cost of equity is 12%. What is JUP's WACC if the firm's marginal tax rate is 35%?

Assume Lavender Corporation has a market value of $4 billion of equity and a market value of $19.8 billion of debt. What are the weights in equity and debt that are used for calculating the WACC?

Outstanding debt of Home Depot trades with a yield to maturity of 8%. The tax rate of Home Depot is 30%. What is the effective cost of debt of Home Depot?

When corporate tax rates decline, the net cost of debt financing ________.

The after-tax cost of equity is ________ the pretax cost of equity.

A firm has $1 million market value and it sells preferred stock with a par value of $100. If the coupon rate on the preferred stock is 5% and the preferred stock trades at $91, what is the cost of preferred stock capital?

A firm has a capital structure with $75 million in equity and $75 million of debt. The cost of equity capital is 10% and the pretax cost of debt is 7%. If the marginal tax rate of the firm is 35%, compute the weighted average cost of capital of the firm.

What is the assumption about risk when using WACC to evaluate a project?

The costs of external financing must be deducted from the net present value (NPV)of a project to evaluate if it is worth undertaking.

Firms that have many divisions with different lines of business do not use a companywide WACC to evaluate projects.

Assume the market value of Fords' equity, preferred stock and debt are $6 billion, $3 billion, and $13 billion, respectively. Ford has a beta of 1.7, the market risk premium is 8%, and the risk-free rate of interest is 3%. Ford's preferred stock pays a dividend of $2.50 each year and trades at a price of $30 per share. Ford's debt trades with a yield to maturity of 9.5%. What is Ford's weighted average cost of capital if its tax rate is 35%?

A firm has a capital structure with $50 million in equity and $100 million of debt. The cost of equity capital is 11% and the pretax cost of debt is 5%. If the marginal tax rate of the firm is 40%, compute the weighted average cost of capital of the firm.

Many financial managers use market risk premiums that are closer to 5%, which is lower than historical averages, because ________.

A firm has outstanding debt with a coupon rate of 8%, seven years maturity, and a price of $1,000. What is the after-tax cost of debt if the marginal tax rate of the firm is 35%?

Assume General Motors has a weighted average cost of capital of 10%. GM is considering investing in a new plant that will save the company $30 million over each of the first two years, and then $15 million each year thereafter. If the investment is $150 million, what is the net present value (NPV)of the project?