Today is January 1, 2013. As of today, Everest International’s (EI) capital structure is comprised

| March 29, 2017

Question
Today is January 1, 2013. As of today, Everest International’s (EI) capital structure is comprised of common equity, preferred stock and long-term debt. Few days ago, EI raised $1,025,000 issuing long-term bond which matures in 10 years. It pays 8.5% semi-annual coupon to the bond holders and the face value of the bond is $1,100,000. Everest International is expected to pay $1.75 dividend next year and the common dividend will grow at an annual rate of 7% forever. Currently, EI’s common stock is trading for $34, there are 45,000 common shares. EI’s beta is 2.12.It is considering starting a new project. If it starts the new project, it will issue new common equity and there will be an 11% flotation cost to issue new equity. Assume that the price of new common stock will be same as the current common share price. EI Just issued 15,000 preferred shares at $25 per share with a commitment to pay $1.85 dividend per year. The firm’s marginal tax rate is 35%. The market risk premium is 4.5% and the risk-free rate is 3.25%.

a. What is the before tax cost of debt?

b. Calculate the after tax cost of debt.

c. What is the cost of preferred stock?

d. Calculate the cost of equity using discounted cash flow method.

e. As you know that EI is considering issuing new equity. If it issues new common equity, what will be the cost of new equity?

f. What is the cost of common equity using the CAPM approach?

g. What is the weighted average cost of capital? (Hint: use cost of equity you have computed using the CAPM as cost of equity).

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