The Jelly Bean Corporation (JBC) has instructed you to estimate its weighted average cost of capital (WACC). You are given the following data:
JBC has a corporate tax rate of 35%. New debt in the form of 15-year bonds could be sold at par to yield 8% paid annually (the yield to maturity on the existing debt) with each $1,000 bond incurring before-tax underwriting expenses of $45. New preference shares can be sold at par to provide a dividend yield of 9% with before-tax issuing and underwriting expenses amounting to 7% of par value. Ordinary shares can be sold to an underwriting syndicate at $12.60 per share, which represents a 10% discount from the current market price. Before-tax issuing and underwriting expenses would be 6.5% of the issue price. Current earnings per share are $1.54, and the stock just paid a dividend of $0.72 per share. Analysts agree that both earnings and dividends will grow at a rate of 6% in the foreseeable future. In addition, the current risk-free rate of return is 4%, the historical market price of risk is 7%, and the beta of JBC ordinary shares is 1.05. JBC must issue new ordinary equity to meet this year's capital expenditure requirements.
Jelly Bean Corp. has the following balance sheet figures:
| Long-term bonds (9% coupon, 15-year maturity ) | $ 35,000,000 |
| Preference shares (1,000,000 shares outstanding, $15 par value,10% dividend) | $ 15,000,000 |
| Ordinary shares ( 4,000,000 shares outstanding) | $ 20,000,000 |
| Retained earnings | $ 30,000,000 |
Required
a. What is the after-tax cost (in %) and market value of JBC's long-term debt?
b. What is the after-tax cost (in %) and market value of JBC's preference shares?
c. What is the after-tax cost (in %) and market value of JBC's ordinary equity, using the CAPM?
Based on the CAPM estimate of the cost of ordinary equity, what is JBC's WACC?
d. What factors affect real-world debt level and capital structure of the company?
The assignment should be printed on A4 size sheets on one side only.