Question

Directions: Answer the following questions on a separate document. Explain how you reached the answer or show your work if a mathematical calculation is needed, or both. Submit your assignment using the assignment link above. A. Bad Boys, Inc. is evaluating its cost of capital. Under consultation, Bad Boys, Inc. expects to issue new debt at par with a coupon rate of 8% and to issue new preferred stock with a $2.50 per share dividend at $25 a share. The common stock of Bad Boys, Inc. is currently selling for $20.00 a share. Bad Boys, Inc. expects to pay a dividend of $1.50 per share next year. An equity analyst foresees a growth in dividends at a rate of 5% per year. Bad Boys, Inc. marginal tax rate is 35%. If Bad Boys, Inc. raises capital using 45% debt, 5% preferred stock, and 50% common stock, what is Bad Boys cost of capital? B. If Bad Boys, Inc. raises capital using 30% debt, 5% preferred stock, and 65% common stock, what is Bad Boys cost of capital? C. In your own words, identify two corporations that have dealt with cannibalization and what steps were taken to overcome the cannibalization. Please provide any citations and references. Please be articulate in your responses.

Answer 1

A). Cost of debt = 8%

Kp = Preferred dividend / Share Price = $2.5/$25 = 10%

Ke = (D1/P0) + g = ($1.5/$20) + 0.05 = 0.075 + 0.05 = 12.5%

WACC = [Wd x Kd x (1 - t)] + [Wp x Kp] + [We x Ke]

= [0.45 x 8% x (1 - 0.35)] + [0.05 x 10%] + [0.5 x 12.5%]

= 2.34% + 0.5% + 6.25% = 9.09%

B). WACC = [Wd x Kd x (1 - t)] + [Wp x Kp] + [We x Ke]

= [0.30 x 8% x (1 - 0.35)] + [0.05 x 10%] + [0.65 x 12.5%]

= 1.56% + 0.5% + 8.125% = 10.185%

C). Cannibalization is the reduction in sales of a product due to the introduction of another product. Apple’s IPhone introduction destroyed the sale revenue of iPod. The IPhone actual increase the overall revenue for the business. The IPhone just incorporated two devices into one which is a cell phone and music. Hence the need for and IPod was greatly reduce. Thus cannibalization for apple was a positive. The second company that used cannibalization is Gillette. Gillette introduce the profusion glide to get consumers to switch from using the Mach 3. The pro glide was a more expensive razor which could generate more revenue. Both business overcame cannibalization by coming out on the positive side.