Cost of capital

What term is not related to cost of capital?

• rate of return

• market value of the firm

• financial statements

• investments/

  projects

Choose the incorrect statement regarding cost of capital

• It takes business risk and financial risk into consideration

• Capital structure of a company consist of mixture between debt and equity

• Cost of capital must be able to maintain the firm’s market value

• Maximum required rate of return to offset the effect of risk associated with business

Choose the correct statement regarding bond

• The interest rate paid to bondholders is higher than loan

• Cost of bond is more expensive than cost of equity

• Bond is paid when due and for agreed period of time

• The company will repay the investors when the bonds reach its maturity date

In a capital structure of a company, equity consists of _____ (choose more than one answer)

• common stocks

• bond

• retained earnings

• preferred stocks

Two assumptions of dividen valuation model are _____ (choose two answers)

• constant dividends

• fluctuate dividends

• dividends grow at constant rate semi annually

• dividends grow at constant rate annually

For bond, the cost of debt is equal to the (a)  

Choose the incorrect statement

• Borrowing money or issuing bonds to raise capital can change the capital structure unless the firm can increase the equity as well

• Book value is the accounting value of assets less its liabilities

• Breakpoints is the total financing that can be achieved before the firm is forced to sell new debt or equity capital

• WACC reflects the expected average future cost of capital over the short run.

Assume that Jack Corporation maintains mix of 35 % debt, 15 % preferred stock and 50 % common stock. The firm pays tax of 40 %. The costs of various types of finance are as follows:

Bonds: 9.5 % (before tax)

Preferred stock: 15.8 %

Common stock: 23.0 %

Determine the firm’s WACC.

(a)  

All of the following statements are correct regarding cost of debt EXCEPT

• Before-tax cost of debt is often taken as the total interest on the loan

• Cost of debt is also refer to the before-tax cost of debt

• Cost of debt is also refer to the after-tax cost of debt

• Payment of interest on loan is tax deductible

If the CAPM is used to estimate the cost of equity capital, the expected excess market return is equal to the

• return on the stock minus the risk-free rate

• difference between the return on the market and the risk-free rate.

• beta times the market risk premium.

• beta times the risk-free rate.