Question

Hankins Corporation has 5.1 million shares of common stock outstanding, 294,000 shares of 5.2 percent preferred stock outstanding, par value of $100, and 135,000 5.5 percent semiannual bonds outstanding, par value $1,000 each. The common stock currently sells for $72.30 per share and has a beta of 1.07, the preferred stock currently sells for $103.40 per share, and the bonds have 22 years to maturity and sell for 102.8 percent of par. The market risk premium is 6.3 percent, T-bills are yielding 2.8 percent, and the firm’s tax rate is 22 percent.

What is the firm's market value capital structure? (Do not round intermediate calculations and round your answers to 4 decimal places, e.g., .1616.)

What is the firm's cost of each form of financing? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

If the firm 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 and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Answer 1

a) Firm's market value capital structure

Particulars	Shares	Rate	Market Value	Weight
Debt/Bonds	1,35,000	1028.00	13,87,80,000	25.80%
Preffered stock	2,94,000	103.40	3,03,99,600	5.65%
Common stock	51,00,000	72.30	36,87,30,000	68.55%
	53,79,09,600	100.00%

b) Using financial calculator to calculate YTM on bond

n= 22 x 2 =44

PV = -1028

PMT = 1000 x 5.5%/2 = 27.50

FV =1000

Calculate I/Y = 2.6416 %

YTM = 2.6416% x 2 = 5.2832%

Before tax cost of debt = 5.2832%

After tax cost of debt = 5.2832% x (1-0.22) =4.1209%

Cost of Debt	5.2832%*(1-0.22)	4.1209%	Kd (1-tax rate)
Cost of Prefferd stock	(100*5.2%)/103.4	5.0290%	Dividend / current price
Cost of common stock	2.8%+(1.07*6.3%)	9.5410%	Risk free Rate + (Beta x Market Risk Premium )

c) WACC is the rate that should be used by the firm to discount the project’s cash flows

Particulars	Shares	Rate	Market Value	Weight	Cost	Weight x Cost
Debt/Bonds	1,35,000	1028.00	13,87,80,000	25.80%	4.1209%	1.06%
Preffered stock	2,94,000	103.40	3,03,99,600	5.65%	5.0290%	0.28%
Common stock	51,00,000	72.30	36,87,30,000	68.55%	9.5410%	6.54%
	53,79,09,600	100.00%		7.89%

WACC = 7.89%

7.89% should be used by the firm to discount the project's cashflows

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