How do you solve Part C:

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Module 10. Student Ch10 P18 Build a Model INPUTS USED IN THE MODEL $50.00 $30.00 $3.30 $2.10 7 Po 8 Net Ppt 9 Der 10 Do 11 g 12 B-T ra 13 Skye's beta 14 Market risk premium, RPM 15 Risk free rate, CRF 16 Target capital structure from debt 17 Target capital structure from preferred sto 18 Target capital structure from common sto 19 Tax rate 20 Flotation cost for common 10% 0.83 6.0% 6.5% 45% 50% 35% 10% 21 22 a. Calculate the cost of each capital component, that is, the after tax cost of debt, the cost of preferred stock (including flotation costs), and the cost of equity (ignoring flotation costs). Use both the DCE 23 method and the CAPM method to find the cost of equity. 25 Cost of debt: B- TX (1-T) = A-TIG 6.50% 30 Cost of preferred stock (including flotation costs): 32 D = Tot Net Pot $30.00 $3 30 11.00 35 Cost of common equity, DCF (ignoring flotation costs): 37 D Po + g = $2.25 $50.00 7% 11.49% 40 Cost of common equity, CAPM: 41 TRF - 6.5% b * RP 4.98% 11.4800% 46 IMPORTANT NOTE: HERE THE CAPM AND THE DCF METHODS PRODUCE APPROXIMATELY THE SAME 47 COST OF EQUITY. THAT OCCURRED BECAUSE WE USED A BETA IN THE P D BECAUSE WE USED A BETA IN THE PROBLEM THAT FORCED THE 48 SAME RESULT. ORDINARILY, THE TWO METHODS WILL PRODUCE SOMEWHAT DIFFERENT RESULTS. 50 b. Calculate the cost of new stock using the DCF model. Do* (1 +9) Po-(1-F) + 9 $2.25 $45. 00 7 % 11,99% c. What is the cost of new common stock based on the CAPM? (Hint: Find the difference between a 56 andr, as determined by the DCF method and add that differential to the CAPM value for s.) Differential 51 Again, we would not normally find that the CAPM and DCF methods yield identical results 63 d. Assuming that Gao will not issue new equity and will continue to use the same capital structure, 64 what is the company's WACC? 66 W 67 w 45.0% 5.0% 50.0% 100.0% Wool WACC Wgx A.Tr 2.92500% 72 0.5500 9.226 74 . Suppose Gao is evaluating three projects with the following characteristics 76 (1) Each project has a cost of $1 million. They will all be financed using the target mix of long term debt, preferred stock, and common equity. The cost of the common equity for each project should be based on the beta estimated for the project. All equity will come from reinvested earnings 12) Equity invested in Project A would have a beta of 0.5. The project has an expected return of 9.0N (3) Equity invested in Project B would have a beta of 1.0. The project has an expected return of 10.0% (4) Equity invested in Project would have a beta of 2.0. The project has an expected return of 11.0% 36 Analyze the company's situation and explain why each project should be accepted or rejected