## (Answered)-Exercise 1 (5 marks) 1. A stock is expected to pay dividends of

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Exercise 1

(5 marks)

1. A stock is expected to pay dividends of \$4 in 1 year and \$5 in 2 years. Expected price of the stock

in 2 years is \$90. The discount rate is 10%. How much is the stock worth today?

2. Dividend next period is forecasted to be \$5 and grow in perpetuity at 4%. The market required

return is 10%. How much is the stock worth today?

3. The bonds of Company ABC have a coupon interest rate of 9%. The interest on the bonds is paid

semiannually, the bonds mature in 8 years, and their par value is \$1,000. If the required rate of

return, kd = 8%,

A. What is the value of each bond?

B. What is the value of each bond if the interest is paid annually?

Exercise 2

(5 marks)

Assume the following capital structure for the Morgan Corporation:

Bank Debt information:

Interest rate on bank loans---------r d =10%

Annual Tax rate --------------------- T =30%

Preferred stock information:

Annual dividends on preferred stock-------------------------- D ps=\$9

Issuing price of Morgan?s company preferred Stock------- P=\$80

Flotation cost on issue of preferred stock / per share-------- FC=\$5

Common Stock information

Market risk Free Rate-------------------------------------------- r RF=5%

Expected Market Risk Premium-------------------------------- RP m =6%

Morgan stocks beta coefficient (index of the stocks risk)--- bi=2

Morgan Corporation plans to invest money in a new project; the finance for the project will be allocated

according to the following capital structure:

Capital structure (1)

Debt

W d =60%

Preferred Stock

W ps =20%

Common Stock

Ws =20%

Instructions:

1. Calculate the cost of debt.

2. Calculate the cost of preferred stock.

3. Calculate the cost of common stock.

4. Calculate the weighted average cost of capital (WACC 1).

5. The capital structure is modified as follow

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