Question

EasyPoker Inc. needs to develop an estimate of its cost of capital. The firm’s marginal tax rate is 30%. The current price of EasyPoker’s 12 percent coupon, semiannual payment bonds with 15 years remaining to maturity is $1,153.72. The current price of the firm’s 10%, $100 par value quarterly dividend perpetual preferred stock is $110.00. EasyPoker’s common stock is currently selling at $50 per share. Its last dividend was 4.19, and dividends are expected to grow at a constant rate of 6 % forever. The firms’s beta is 1.35, the yield on T-bills is 7 percent, and the market risk premium is estimated to be 6%. EasyPoker’s capital structure is 40 percent debt, 10 percent preferred stock, and 50 percent common equity.

Please provide the following, showing all work:

2. Calculate the firm’s component cost of debt.

3. Calculate the firm’s cost of equity. Use all possible sources of information.

4. Calculate the firm’s WACC.

Answer 1

2	To find the cost of debt we need to find the yield to maturity of the bonds
	Coupon Rate	6%	Semi Annual
	Number of payments (NPER)	30	15*2
	Current Price (PV)	$1,153.72
	Coupon Amount (PMT)	60	1000*6%
	Par Value (FV)	$1,000
	Using the rate function we can calculate semi annual yield to maturity
	5.00%
	RATE(30,60,-1153.72,1000)
	Yield to maturity = 5%*2		10%
	After Tax cost of debt = 10%*(1-0.30)		7.00%
3	Cost of Equity using the dividend discount model
	Ke = D1/P0 + g
	Ke = ((4.19*1.06)/50) + 0.06		14.88%
	Cost of Equity using the CAPM Model
	Ke = Risk free rate + Beta*Risk Premium
	0.07 + (1.35*0.06)
	15.10%
	Cost of preferred Stock = Dividend/Market Price = 100*10%			10/110	9.09%
4	The WACC of the company is
	(0.40*0.07) + (0.10*0.0909) + (0.50*0.1510)
	11.26%