summary mankeu ch 14

8/19/2019 Summary Mankeu Ch 14

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Capital StructureDebt $ 100

Preferred Stock $ 50

Common Stock $ 250

400

Calculating the WACC for TempletIn the spring of 2010, Templeton was consideri

and wanted to estimate its own WACC as a gui

Templetons capital structure consists of the foll

Templeton contacted the "rms in#estment $an

"nancing and was told that if the "rm were to $

it would ha#e to pa& lenders '() howe#er, gi#e

the after-tax cost of borrowing would onl&

)referred stoc*holders currentl& demand a

Templetons C+ %new that the WACC would $ecapital structure is a $lend of the three sources

After completing her estimate of Tethe possi$ilit& of adding more low/of the "rms in#estment $an%er, thpush its use of de$t to .*( of thand retiring purchasing3 the "rms

increasing the "rms costs of $orro$& the "rms common stoc%holders


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Calculation Weights Cost Product

100/400 0.250 0.06 0.015

50/400 0.125 0.10 0.0125

250/400 0.625 0.15 0.09375

1.000 WACC 0.12125

n Extended Care Facilities, Inc.g the acquisition of a chain of extended care facilities

e to the cost of capital for the acquisition.

owing!

%er to get estimates of the "rms current cost of

orrow the same amount of mone& toda&,

n the "rms 2*( tax rate,

e ! " #! $% - .&'(

+! rate of return, and common stoc%holders demand %'

somewhere $etween -( and 1*( since the "rmsof capital whose costs are $ounded $& this range.

mpletons WACC, the C+ decided to exploreost de$t to the capital structure. With the helpC+ learned that Templeton could pro$a$l&"rms capital structure $& issuing more de$t

preferred shares. This could $e done without

ing or the required rate of return demandedWhat is &our estimate of the WACC for


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Calculation Weights Cost Product

100/400 0.375 0.06 0.022550/400 0 0.10 0

250/400 0.625 0.15 0.093751.000 WACC 0.11625

ructure proposal4


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.


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sing Excel

.'!

The after/tax cost of de$t 5 .*6( 1 / 60(3 5 6.*2(

Approx /ield to 0aturit1 Formula

7T8 5RAT!"#er #%t#&'&(

2 The cost of debt is the rate of return the "rms lenders dema

9ote, the rate of return is not the same as coupon rate, which iissue.

We can estimate the mar%ets required rate of return $& exami

After/tax cost of de$t 5 7ield 1/tax rate3

:xample 16.1 What will $e the &ield to maturit& on a de$t thatrate of (, time to maturit& of 20 &ears and is currentl& tradintax rate is 60(4


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=


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d when the& loan mone& to the "rm.

the rate contractuall& set at the time of

ing the &ield to maturit& on the "rms de$t.

has par #alue of ;1,000, a coupon interestat ;


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11/18

C34T 3F C30035 E6IT/

%. 7i8idend 9rowth 0odel

>earson plc >?3@s stoc% price was closed at ; 1

Calculate the "rm@s cost of capital if the growth rate are 6.-


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&. The Capital Asset )ricing 0odel

D .

At growth rate of 6.-


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arson@s 2011 common stoc% di#idend was ; 0.6< per share.

specti#el&.

mpan& that are trading at ;2* per share. What will#alue of ;* and pa& annual di#idend of 6(4


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on the dierent assumptions for growth rate.

of equit&. Jowe#er, estimating the growth rate is not eas&.

or 1.23

used for ris%/free rate of interest, $eta and mar%et ris% premium.

rom .21( to 12.60(.


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when securities are sold at a discount to the current mar%et price.

The problem example

= .40 × .03 + .60 × .15

Floatation cot ,re 'ees #,id to ," i"&est%e"t ,")er ,"d costs i

= .10! or 10.!%

Kecause of Loatation costs, the "rm will ha#e to raise more than th

:xample If a "rm needs ;100 million to "nance its new proMect and

much should the "rm raise $& selling securities4

5 ;100 million N 1/.0**3 5 ;10*.'2 million

Thus the "rm will raise ;10*.'2 million, which includes Loatation co

The Tricon Telecom compan1 is considering a ; %++ million in8estment that would allow it tomillion subscribers. The in8estment will be O 5 >OinLows3 D Initial outla& D +loatation costs

We need to "rst estimate the a#erage Loatation costs that Tricon will incur whe

The Pgrossed upQ initial outla& for ;100 million proMect can $e estim


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" ;%++ million $%- +.%+&( " ;%%%.: million

Thus, Loatation costs is equal to ;11.- million.

9>O 5 ;11* million / ;111.- million

5 ;:. million

The proMect is feasi$le e#en after consideration of higher Loatation


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"curred

amount it needs.

the Loatation cost is expected to $e *.*(, how

t of ;*.'2 million.

e8elop ect, stoc* mar*et conditions changed such that new stoc*

d the cost of debt rose to :!. Is the pro>ect still 8iable $assuming

l outla& and Loatation costs.

n raising the funds.

ated $& the a$o#e gross/up formula.


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osts as the 9>O is positi#e at ;.-6 million.

summary mankeu ch 14

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