1. The capital structure for Mills Corporation is shown below. Currently, flotation costs are 13% of market value for a new bond issue and $3 per share for preferred stock. The dividends for common stock were $2.50 last year and have an estimated annual g

  

1. The capital structure for Mills Corporation is shown below. Currently, flotation costs are 13% of market value for a new bond issue and $3 per share for preferred stock. The dividends for common stock were $2.50 last year and have an estimated annual growth rate of 6%. Market prices are $1,050 for bonds, $20 for preferred stock, and $40 for common stock. Assume a 34% tax rate.

  

Financing Type

% of Future 

Financing

 

Bonds (8%, $1k par, 16 year   maturity)

36%

 

Common equity

45%

 

Preferred stock (5k shares   outstanding, $50 par, $1.50 dividend)

19%

 

Total %

100%

Compute the company’s WACC.

2. The Milton Company plans to issue preferred stock. Currently, the company’s stock sells for $120. Once new stock is issued, the Milton Company would receive only $99 (due to flotation costs). The dividend rate is 12%, and the par value of the stock is $100. Compute the cost of capital of the stock to your firm. Show all work.

3. The Dayton Corporation is considering a new investment, which would be financed from debt. Dayton could sell new $1k par value bonds at a new price of $950. The bonds would mature in 15 years, and the coupon interest rate is 10%. Compute the after-tax cost of capital to Dayton for bonds, assuming a 34% tax rate. Show work.

4. Farrah Corporation is considering two projects (see below). For your analysis, assume these projects are mutually exclusive with a required rate of return of 12%.

   

Project 1

Project 2

 

Initial investment

$185,000

$1,100,000

 

Cash inflow Year 1

$230,000

$1,450,000

Compute the following for each project:

• NPV (net present value)
• PI (profitability index) 
• IRR (internal rate of return)

Which project should be selected? Why?

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