Question

Titan Mining Corporation, Inc. is capitalized with 10,000,000 shares of common stock, 1,000,000 shares of preferred stock, and 800,000 5.50% ($1,000 par) coupon bonds, paid semiannually. The bonds have 8 years left until maturity and are trading for 93% of par. The common stock currently sells for $40.72 per share and has a beta of 1.25. The company recently paid a common stock dividend of $4.35 per share, and such dividend is expected to grow at a rate of 4%, forever. The preferred stock, which has a 7.5% dividend, currently sells for $110.75 per share. The market return is 9.5%, T-Bills have a yield to maturity of 2.5%, and the company’s marginal tax rate is 30%. Please compute the following, and show all of your work:

-The firm’s component cost of Common Stock,

-The firm’s before-tax component cost of Debt,

-The firm’s component cost of Preferred Stock,

-The firm’s After-Tax Weighted Average Cost of Capital.

Answer 1

a. Cost of Common Stock:

Equity value	$407,200,000	Given in question (10,000,000 shares* $40.72 market value)
Beta	1.25	Given in question
Market Return	9.5%	Given in question
Risk free rate	2.50%	Given in question
Cost of Equity (using CAPM)	11.25%	Risk free rate + (beta * (market return-Risk Free rate))

Cost of Common Stock = 11.25%

b. Cost of Debt (before tax)

Debt value	$744,000,000	Given in question (800000* 1000*93% )
Coupon	5.5%	Given in question
Payments	semi-annual	Given in question
Maturity (years)	8	Given in question
Number of coupon payments	16	(8 years * 2(semi-annual))
Par value of bonds	$1,000	Given in question
Current Value	$930	(1000*93%)
Coupon payment every semi-annual	$27.50	(1000*5.5%/2)
Semi annual YTM	3.32%	=rate(16,$27.50,-$930,$1,000)
Annual YTM	6.64%	Semi annual YTM * 2
After tax Annual YTM	4.65%	6.97%*(100%-30%)

Before tax cost of debt = 6.64%

c. Cost of Preferred Stock:

Preferred stock value	$110,750,000	Given in question (1,000,000shares* $110.75 market value)
Rate	7.5%	Given in question
Par value	$100	Given in question
Current Value	$111	Given in question
Dividend per year	$7.5	(100*7.5%)
Cost of Preferred stock	6.77%	$7.5/$111

Cost of Preferred Stock = 6.77%

d. After tax weighted average cost of capital:

Calculation of weightage:

Source of funds	Value	Weightage	Working
Debt	$744,000,000	58.96%	($744,000,000/$1,261,950,000)
Preference Stock	$110,750,000	8.78%	(110,750,000/$1,261,950,000)
Ordinary Stock	$407,200,000	32.27%	($407,200,000/$1,261,950,000)
Total	$1,261,950,000

Weighted cost of capital:

Source of funds	Weightage	Cost	Cost of Capital (Weightage * Cost)
Debt	58.96%	4.65%	2.74%
Preference Stock	8.78%	6.77%	0.59%
Ordinary Stock	32.27%	11.25%	3.63%
Total	100.00%		6.97%

Weighted Cost of Capital = 6.97%