Reading 45: Cost of Capital - LOS f ～Q1-3 available, because, average, rating, market

mayanfang1

Q1. The debt of Savanna Equipment, Inc. has an average maturity of ten years and a BBB rating. A market yield to maturity is not available because the debt is not publicly traded, but the market yield on debt with similar characteristics is 8.33%. Savanna is planning to issue new ten-year notes that would be subordinate to the firm’s existing debt. The company’s marginal tax rate is 40%. The most appropriate estimate of the after-tax cost of this new debt is:

A)   5.0%.

B)   Between 3.3% and 5.0%.

C)   More than 5.0%.

Q2. The 6% semiannual coupon, 7-year notes of Woodbine Transportation, Inc. trade for a price of $94.54. What is the company’s after-tax cost of debt capital if its marginal tax rate is 30%?

A)   2.1%.

B)   4.9%.

C)   4.2%.

Q3. Ferryville Radar Technologies has five-year, 7.5% notes outstanding that trade at a yield to maturity of 6.8%. The company’s marginal tax rate is 35%. Ferryville plans to issue new five-year notes to finance an expansion. Ferryville’s cost of debt capital is closest to:

A)   4.4%.

B)   4.9%.

C)   2.4%.

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