Bebida Sol's marginal tax rate remains at 30 percent. Existing cash reserves meet the funding needs of the new project. The company recently has short-term noninterest-bearing liabilities - accounts payable of Pesos 15,000,000. Bebida Sol has 650,000 7% coupon bonds outstanding. Each bond has a Pesos 1,000 par value and pays semiannual coupon payments. The bonds will mature in 15 years and are currently traded over the counter at 92 percent of par. The company is also financed by 10,000,000 shares of company equity. The common stocks are currently being traded in the Mexico Stock Exchange at Pesos 90 per share. Its last dividend was Pesos 1, and dividends are expected to grow at a constant rate of 5 percent in the foreseeable future. Bloomberg reports that the beta of the common stock is 1.45. The historical equity risk premiums on the Mexico stocks are 14.5 percent (arithmetic mean) and 10.9 percent (geometric mean). The annual risk-free return is 3 percent over the next five years.

1. Calculate the cost of debt? Should you use the nominal cost or the effective cost?

2. Estimate the cost of equity. Should you rely on CAPM or Dividend Discount Model when estimating the cost of equity? Why?

3. What is your estimate of Bebida Sol's discount rate?

Answer rating: 100% (QA)

1 To calculate the cost of debt we need to use the effective cost of debt which takes into account the current trading price of the bonds Effective Co... View the full answer