1. The current dividend on a stock is $2 per share and investors require a rate of return of 12%. Dividends are expected to grow at a rate of 20% per year over the next three years and then at a rate of 5% per year from that point on. What is the highest price an investor would be willing to pay for this stock.
2. Star Products is a manufacturer of auto accessories. The new CFO would like to determine the cost of capital for the firm, taking into consideration the three components of the firm's capital structure- long- term debt (30%), Preferred Stock (10%) and common stock (60%).
The firm is in the 40% tax bracket.
LONG TERM DEBT
The firm can sell $1,000 par value debt with a 9% coupon paid annually. Floatation costs are $40 per bond.
PREFERRED STOCK
The firm can issue 8% preferred with a par value of $25. Floatation costs would be $3,00 per share. COMMON STOCK
The firm expects dividends to be 96 cents per share this year and grow at a constant rate of 11% per year. The firm's stock currently sells for $12.00 per share and the firm can issue new stock with $2.00 in floatation costs.
CALCULATE THE FIRM'S WEIGHTED AVERAGE COST OF CAPITAL