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Lecture 9

ADM2350 Lecture 9: Untitled9

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Anna Dodonova

—> Not all common shares are created equally, Most firms have only one type of common stock. —> Some shares may have more then normal voting rights (multiple or super-voting shares), Some shares may have voting restrictions (or even no voting rights) Valuing Common Stocks: —> Most stocks’ expected total return = dividend yield + capital gains yield. —> The intrinsic value of a stock is the present value of its expected future cash flow stream Chapter 9 THE COST OF CAPITAL WACC = The cost of capital used to analyze capital budgeting decisions should be a weighted average of the various components’ costs, called the weighted average cost of capital e.g, Firm XYZ operates in the economy where risk-free rate is 6% and the market expected rate of return is 16%. XYZ’s tax rate is 40% and its equity beta = 1.3. Assume we have the following information about the firm XYZ: Find the value of equity and value of debt and Find WACC EQUITY: Number of shares outstanding: 400,000 Price per share: $20 ANSW:  E = 400,000 * 20 = $8m DEBT (mature in 20 years): Number of bonds outstanding: 8,000 Bond’s face value $1,000 Bond’s market price: $1200 Coupon rate (paid annually) 8% D= 8000*1200 =$9.6m ANSW to find WACC  V = 8 mil + 9.6 mil = $17.6M RE = 0.06 + 1.3(0.16 - 0.06) = 19% RD: FV=1000; PV=-1,200; PMT = 80; n=20, Find I/Y. Thus, RD=6.2244% WACC = (0.19*8/17.6) + 0.0622
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