Compano$s$ executive management team $is$

$be$ required $to$ meet $an$ appropriate cost $of$ capital hurdle before capital $is$ committed. Consequently, the firm$s$ CFO has initiated a cost $of$ capital study $by$ one $of$ his senior financial analysts, Jim Tipolli. Jim$s$ first action was $to$ contact the firm$s$ investment banker $to$ get input $on$ current capital costs.

Jim learned that, although the firm$s$ current debt capital required $an8\mathrm{.}5\%$ coupon rate $of$ interest $(with$ annual interest payments and $no$ principal repayments until $2025),$ the current yield $on$ similar debt would decline $to8\%if$ the firm were $to$ raise debt funds today. When $he$ asked about the beta for Compano$s$ debt, Jim was told that $it$ was stan$-$ dard practice $to$ assume a beta $of\mathrm{.}30$ for the corporate debt $of$ firms such $as$ Compano.

$a.$ What are Compano$s$ capital structure weights for debt and equity that should $be$ used $to$ compute its cost $of$ capital?

$b.$ Based $on$ Compano$s$ corporate income tax rate $of40\%,$ the firm$s$ mix $of$ debt and equity financing, and $an$ unlevered beta estimate $of\mathrm{.}90,$ what $is$ Compano$s$ levered equity beta? $(Hint$: Compano plans $on$ maintaining the mix $of$ financing over time$).$

Liabilities and Owners$$ Capital

Current liabilities Accounts payable Notes payable

Other current liabilities

Total current liabilities

Long$-$term debt $(8\mathrm{.}5\%$ interest paid semiannually, due $in2015)$

Total liabilities Owners$$ capital

Common stock $($$$1$ par value per share$)$ Paid$-in-$capital

Accumulated earnings

Total owners$$ capital

Total liabilities and owners$$ capital

Invested Capital $(Market$ Values$)$

$-$

$$-$

$ $434,091,171$ $ $434,091,171$

$ $900,000,000$ $$1,334,091,171$

concerned that its new investments

$c.$ Assuming a long$-$term $US$ Treasury bond yield $of5\mathrm{.}42\%$ and $an$ estimated market risk premium $of5\%,$ what should Jim$s$ estimate $of$ Compano$scostof$ equity $beifhe$ uses CAPM?

$d.$ What $is$ your estimate $of$ Compano$s$ WACC?