Finance 6 Essay Example | Topics and Well Written Essays - 3000 words

Finance 6 - Essay ExampleThus from the precondition data, Kd = (8.5%) (1-0.30) = 5.95%b.The cost of favorite(a) stock is calculated by the following formulaKp = Dp / Pp (1-F)Where, Kp = cost of preferred stockDp = preferred dividendPp= preferred stock priceF= floatation cost (Brigham & Daves, 2009, p.330). From the data, Kp = 9/91 = 9.89%c.Cost of common stock (at constant growing rate) can be calculated by the following formula Ks = (D1/P0) + gWhere, Ks = cost of common stockD1 = Dividend at the end of the first formP0 = price of the stock at the beginning of the first yearg = growth rate (Gitman, 2007, p.448).From the data, Ks = (0.75/15) + 0.06 = 11%d.Calculation of Weighted Average Cost of Capital (WACC)Capital ComponentPercentage of keen body structureCostProduct (PercentageCost)Debt0.355.95%2.08%Preferred Stock0.059.89%0.49%Common Stock0.6011%6.60%WACC9.17%Page 1 zero(prenominal) 2 SolutionCost of retained earnings (Kre) = Ke (1-f) Where, Kre = cost of retained earningsKe = cost of rightfulnessf = floatation cost (Kapil, 2011, p.278). Ke = (2.10/34) + 0.06 = 12%From the given data, Kre = 0.12 (1-2.38) = (16.56%) (negative)Cost of new common stock (Kn) = (D1/Nn) + gWhere, Kn = cost of new issues of common stockD1 = Dividend at the end of first yearNn = net counter from the sale of new common stocksg = constant growth rate (Gitman, 2007, p.448)From the given data, Kn = (2.10/34) + 0.06 = 12.18%... The original symmetricalness sheet reflects 10 percent debt and 90 percent equity. It may here be observed that companies in general tend to lessen their amounts of debts and increase equity amounts or make investments. In the long attract in the business operations of any company, the concept of remaining free of debt may non consecrate well for the business profits. Instead it may be preferable to base a companys outstanding structure on the cost of capital for the company. Thus, borrowing money for a long consideration and reinvesting the amounts i n business projects is expected to generate profits for the company. Hence, an best structure may reflect on 30-40 percent of debt and the rest in equity for the firm (Kennon, 2011). c. A company may alter its capital structure and buy certain amounts of equity in exchange for new debt thus substituting debt for equity. This would not have any effect on the cost of capital of the company since the overall cost of capital employed does not change. The transaction remains neutral both for the company as well as the investor (Vernimmen & Quiry, 2009, p.448). d. If a company uses too much of debt financing, then the financial condition of the company may be in a difficult situation. This is primarily because in the long run, the company may lose its note value and that tends to increase the cost of capital of the firm. An optimal capital structure of a firm largely depends on the business risk of the firm greater the risk higher is the possibility for the company to obtain its optimal capital structure (Drake & Fabozzi, 2010, p.178). Page 3 No.1 Solution Assuming the cost of capital to be 10% and 12% the NPVs can be calculated on the costs and cash flows as given in the data. At 10%, NPV = $ 1102.98 At