Question

1. At the present time, Three Waters Company (TWC) has 10-year noncallable bonds with a face value of $1,000 that are outstanding. These bonds have a current market price of $1,092.79 per bond, carry a coupon rate of 11%, and distribute annual coupon payments. The company incurs a federal-plus-state tax rate of 25%. If TWC wants to issue new debt, what would be a reasonable estimate for its after-tax cost of debt (rounded to two decimal places)? (Note: Round your YTM rate to two decimal place.)

Consider the case of Turnbull Co. (Q2, Q3)

2. Turnbull Co. has a target capital structure of 45% debt, 4% preferred stock, and 51% common equity. It has a before-tax cost of debt of 11.1%, and its cost of preferred stock is 12.2%.

If Turnbull can raise all of its equity capital from retained earnings, its cost of common equity will be 14.7%. However, if it is necessary to raise new common equity, it will carry a cost of 16.8%.

If its current tax rate is 25%, how much higher will Turnbull’s weighted average cost of capital (WACC) be if it has to raise additional common equity capital by issuing new common stock instead of raising the funds through retained earnings? (Note: Round your intermediate calculations to two decimal places.)

A. 1.07%

B. 0.91%

C. 1.18%

D. 1.39%

3. Turnbull Co. is considering a project that requires an initial investment of $1,708,000. The firm will raise the $1,708,000 in capital by issuing $750,000 of debt at a before-tax cost of 9.6%, $78,000 of preferred stock at a cost of 10.7%, and $880,000 of equity at a cost of 13.5%. The firm faces a tax rate of 25%. What will be the WACC for this project?      (Note: Round your intermediate calculations to three decimal places.)

Answer 1

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