Flashcards in Financial Management: Weighted Avg. Cost of Capital & Optimal Capital Structure Deck (23):

1

## WACC=

### (Cost of Equity X Equity Capital Structure Percentage)+ (Weighted Avg. Cost of debt X Percentage debt in capital structure)

2

## YTM

### Effective Annual Interest Payment/ Debt Cash Available

3

## Long-term elements

### Long-term debt, preferred stock, common stock and retained earnings

4

## Short-term elements

### Interest-bearing debt, other forms of current liabilities A/P & Accruals

5

## 3 common methods of computing Costs of retained earnings

###
a) CAPM

b) Discounted Cash Flow

c) Bond yield plus risk premium

6

## After tax cost of debt Or Net cost of Debt

### YTM X(1-T)

7

## Pretax ncost of debt Weighted Average interest Rate

###
Effective annual interest payments/ Debt Cash available

Par X C Outflow/ Net Inflow

8

## After- Tax cost of debt

### Pretax cost of debt X (1- Tax rate)

9

##
Cost of Preferred Cost > Cost Debt

###
-Dividends are not tax deductible

-PS assume more risk, bc they are paid last

10

## Cost of Preferred stock formula

###
Preferred stock dividends/ Net proceeds of pref. stocks

=Par x%/ Net Inflow

Ex: Dividend paid ($20 par value × 9% dividend) $ 1.80

Net proceeds ($40 selling price − $5 floatation) ÷ 35.00

Cost of preferred shares 5.1%

11

## CAPM

###
Beta> 1 riskier

Beta

12

## CAPM Formula

###
Risk-free rate+ Risk Premium

Risk- free rate + (Beta X Market Risk Premium)

Risk free rate + (BetaX(Market Return - Risk free return)

13

##
Discounted Cash Flow Formula

-Cost of Retained Earnings

###
D/P +G

P= Current Market Price

D= Dividend per share expected at the end of the year

G= The constant rate of growth in dividends

14

##
Bond yield plus risk premium

"Pre-tax"

###
Pretax cost of long-term debt ( you can use YTM)+ Market risk premium

Market risk premium = reward for buying riskier CE

15

## The over all cost of capital is the WACC

### Rate of return on assets that covers the costs associated with the funds employed

16

## The benefits of debt financing over equity financing are likely to be highest

### High marginal tax rates and few noninterest tax benefits.

17

## Weighted-average cost of capital

### rate is most commonly compared to the internal rate of return to evaluate whether to make an investment

18

## If a firm has an increase in the corportae income tax rate. What will that cause them to do?

### It will cause the firm to increase the debt in its financial structure

19

## The cost of debt most frequently is measured as:

### Actual interest rate minus tax savings

20

## What is a company's objective when it comes to WACC?

### To minimize the WACC

21

## Which one of a firm's sources of new capital usually has the lowest after tax cost

### Bonds

22

## The three elements needed to estimate the cost of equity capital are:

###
Current dividends per share (D)

Expected growth rate in dividends (G) and

Current market price per share of common stock (P)

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