Budget is negotiable... uploaded the instructions and a small sample of the work not including the spreadsheets with regressions!

COST OF CAPITAL

Please read the questions and instructions, follow the example, and answer all the questions with the data of your dividend paying firm.

What is the beta of your firm? (please download historical price daily data of your firm and S&P 500 from Jan. 1, 2000 to Dec. 31, 2013; sort the data from the oldest to the most recent; calculate daily return; and run the regression with DV=return of S&P 500 and IV=return of your firm; obtain the beta coefficient).

What is the share price of your firm? How many shares outstanding?

Download the balance sheet of your firm. Based on the most recent period of balance sheet, how much is the long-term debt and short-term debt? Find out the marginal tax rate of your firm from 10Q (or annual report). Assuming that the book value of the debt (sum of long-term and short term) provides a good approximation of its market value.

Based on spreads info from giddy.org, assuming your firm is rated AA by credit rating agencies, then what is the spread for your 10-year bond?

Assuming 10-year Treasury currently yield about 4.40%, and the expected long-term return on the broad stock market is about 12%.

Estimate the cost of equity for your firm.

Estimate weighted average cost of capital for your firm. (assuming that your firm didn’t issue preferred stock)â€¨

spreads info from giddy.org

Example: IBM's Cost of Capital

You have been asked to estimate the cost of capital for IBM. To help with this task you have been provided with a balance sheet (see below) and the following information:

The beta of the stock is 1.09, based upon a regression of IBM stock returns against the S&P 500 Index. (ps. skip the excel template here, but students have to follow the instruction to complete this step)

The share price is $130, and there are 943 million shares outstanding.

The firm has $61.7 billion in debt on its balance sheet. Since the debt is mostly short-term or recently issued, one may assume that the book value of the debt provides a good approximation of its market value. IBM incurs a marginal corporate tax rate of 36%.

The firm is rated A by the rating agencies, and the default spread over for A-rated 10-year bonds is currently 96 basis points over the corresponding US treasury yield.

Ten year Treasurys currently yield about 4.40%, and the expected long-term return on the broad stock market is about 12%

Estimate the cost of equity for IBM â€¨Estimate weighted average cost of capital for IBM. (Assuming that your firm didn’t issue preferred stock)â€¨ â€¨ â€¨

a. The cost of equity from the CAPM is:â€¨4.40%+1.09(12%-4.40%) = 12.68%

b. The after-tax cost of debt is: Rate(1-Taxrate) = 5.36%(1-.36) = 3.43%â€¨The market value of equity is price*shares = 130*0.943 billion = $122.59 billion. â€¨The debt, short- as well as long-term, is worth $61.7 billion.

The sum of these is $184.29 billion.

Subject | Business |

Due By (Pacific Time) | 04/10/2014 12:00 am |

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