Question

Titan Mining Corporation has 9.9 million shares of common stock outstanding, 430,000 shares of 6 percent preferred stock outstanding, and 225,000 8.7 percent semiannual bonds outstanding, par value $1,000 each. The common stock currently sells for $47 per share and has a beta of 1.45, the preferred stock currently sells for $97 per share, and the bonds have 20 years to maturity and sell for 118 percent of par. The market risk premium is 8.7 percent, T-bills are yielding 5 percent, and the company’s tax rate is 40 percent. a. What is the firm’s market value capital structure? (Do not round intermediate calculations. Round your answers to 4 decimal places, e.g., 32.1616.) Market value weight Debt Preferred stock Equity b. If the company is evaluating a new investment project that has the same risk as the firm’s typical project, what rate should the firm use to discount the project’s cash flows? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) Discount rate %

Answer 1

Market value of debt = 118% * 1000 * 225000 = 265500000

Market value of equity = 47*9900000 = 465300000

Market value of preferred stock = 430000*97 = 41710000

Total value = 265500000 + 465300000 + 41710000 = 772510000

Cost of equity = Risk free rate + beta*(Market risk premium)

= 5% + 1.45*8.7% = 17.615%

Cost of preferred stock = Annual coupon/Price = 6/97 = 6.1856%

Cost of debt:

PV = 1180

FV = 1000

N = 20*2 = 40

PMT = 0.087*1000/2 = 43.5

Using excel function, YTM = Rate(N,PMT,PV,FV)

Rate(40,-43.5,1180,-1000) = 0.0351

Annual YTM = 0.0351*2 = 0.0701 = 7.01%

WACC = rD (1- Tc )*( D / V )+ rE *( E / V )

Where...

rD = The required return of the firm's Debt financing
(1-Tc) = The Tax adjustment for interest expense
(D/V) = (Debt/Total Value)
rE= the firm's cost of equity
(E/V) = (Equity/Total Value)

WACC = 265500000/772510000 * 0.0701*(1-0.4) + 465300000/772510000*17.615% + 41710000/772510000 * 0.061856 = 0.1239 = 12.39%