1 ABThe common stock of Anthony Steel has a beta of 08 The r

1 A-B.The common stock of Anthony Steel has a beta of 0.8. The risk-free rate is 5 percent and the market risk premium (r_m - r_f) is 4 percent. What is the company\'s cost of common stock, r_s? Express your answer in percentage (without the % sign) and round it to two decimal places.

A company\'s balance sheets show a total of $25 million long-term debt with a coupon rate of 11 percent. The yield to maturity on this debt is 9.83 percent, and the debt has a total current market value of $34 million. The balance sheets also show that that the company has 10 million shares of stock; the total of common stock and retained earnings is $30 million. The current stock price is $7.5 per share. The current return required by stockholders, r_s, is 11 percent. The company has a target capital structure of 40 percent debt and 60 percent equity. The tax rate is 40%. What weighted average cost of capital should you use to evaluate potential projects? Express your answer in percentage (without the % sign) and round it to two decimal places.

Solution

1. Company\'s Cost of common stock, rs

rs = rf + Beta X (rm - rf)

= 5 + 0.8 X 4

= 5 + 3.2

= 8.2

2. Weighted average Cost of capital

= Cost of Debt X ( 1- tax ) X weight of Debt + Cost of Equity X weight of Equity

Cost of Debt = Coupon rate

Tax Rate = 40 % = 0.4

Weight of Debt = 40 % = 0.4

Cost of equity = current return required by stockholders, rs, is 11

Weight of Equity = 60 % = 0.6

= 11 X ( 1-0.4 ) X 0.4 + 11 X 0.6

= 2.64 + 6.6

= 9.24