Company ABC, a social media firm, has the following characteristics: There are 200 million shares outstanding,...

 

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Company ABC, a social media firm, has the following characteristics: There are 200 million shares outstanding, trading at $100 per share. ● ● ● The firm has a book value of debt $50 billion (with a maturity of 10 years) and interest expenses of $1 billion on the debt. The firm is not rated, but it has operating income of 2.5 billion last year. The tax rate for the firm is 30%. The equity risk premium is 6% The estimated bond ratings and the corresponding default spreads for various ranges of interest coverage ratio are: Interest Coverage Ratio > 4.79 3.70 4.79 3.00-3.69 2.00 - 2.99 <2.0 Estimated Bond Rating AAA AA A+ BBB BB+ b) Estimate the market value of debt for ABC. Default Spread The Treasury bond rate is 6%, and the unlevered beta of other social media firms is 1.0. a) Based on the estimated synthetic rating, calculate the pre-tax cost of debt for ABC. (5 marks) (4 marks) (7 marks) Estimate the cost capital for ABC. 0% 0.5% 1% 1.5% 2% Company ABC, a social media firm, has the following characteristics: There are 200 million shares outstanding, trading at $100 per share. ● ● ● The firm has a book value of debt $50 billion (with a maturity of 10 years) and interest expenses of $1 billion on the debt. The firm is not rated, but it has operating income of 2.5 billion last year. The tax rate for the firm is 30%. The equity risk premium is 6% The estimated bond ratings and the corresponding default spreads for various ranges of interest coverage ratio are: Interest Coverage Ratio > 4.79 3.70 4.79 3.00-3.69 2.00 - 2.99 <2.0 Estimated Bond Rating AAA AA A+ BBB BB+ b) Estimate the market value of debt for ABC. Default Spread The Treasury bond rate is 6%, and the unlevered beta of other social media firms is 1.0. a) Based on the estimated synthetic rating, calculate the pre-tax cost of debt for ABC. (5 marks) (4 marks) (7 marks) Estimate the cost capital for ABC. 0% 0.5% 1% 1.5% 2%

Answer rating: 100% (QA)

Solution A Pretax cost of debt for ABC We can calculate the pretax cost of debt for ABC by using the estimated synthetic rating default spread and Treasury bond rate First we need to calculate the int... View the full answer