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    Md. Habibullah
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    The cost of debt for Rollins Corporation is 7.2%. The cost of preferred stock is 12.63%. Using the CAPM approach, the cost of retained earnings is 16%. Using the dividend growth model, the cost of retained earnings is also 16%. Using the bond-yield-plus-risk-premium approach, the cost of retained earnings is 16%. Rollins' weighted average cost of capital is 13.57%.

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    The cost of debt for Rollins Corporation is 7.2%. The cost of preferred stock is 12.63%. Using the CAPM approach, the cost of retained earnings is 16%. Using the dividend growth model, the cost of retained earnings is also 16%. Using the bond-yield-plus-risk-premium approach, the cost of retained earnings is 16%. Rollins' weighted average cost of capital is 13.57%.

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    413 views2 pages

    Rollins Corporation

    Uploaded by

    Md. Habibullah
    The cost of debt for Rollins Corporation is 7.2%. The cost of preferred stock is 12.63%. Using the CAPM approach, the cost of retained earnings is 16%. Using the dividend growth model, the cost of retained earnings is also 16%. Using the bond-yield-plus-risk-premium approach, the cost of retained earnings is 16%. Rollins' weighted average cost of capital is 13.57%.

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    Q # 5: Rollins Corporation has a target capital structure consisting of 20 percent debt, 20 percent preferred

    stock, and 60 percent common equity. Assume the firm has insufficient retained earnings to fund the equity
    portion of its capital budget. Its bonds have a 12 percent coupon, paid semiannually, a current maturity of 20
    years, and sell for $1,000. The firm could sell, at par, $100 preferred stock that pays a 12 percent annual
    dividend, but flotation costs of 5 percent would be incurred. Rollins' beta is 1.2, the risk-free rate is 10 percent,
    and the market risk premium is 5 percent. Rollins is a constant growth firm that just paid a dividend of $2.00,
    sells for
    $27.00 per share, and has a growth rate of 8 percent. The firm's policy is to use a risk premium of 4 percentage
    points when using the bond-yield-plus-risk-premium method to find k s. Flotation costs on new common stock
    total 10 percent, and the firm's marginal tax rate is 40 percent.
    What is Rollins' component cost of debt?
    (i) What is Rollins' cost of preferred stock?
    (ii) What is Rollins' cost of retained earnings using the CAPM approach?
    (iii) What is the firm's cost of retained earnings using the DCF approach?
    (iv) What is Rollins' cost of retained earnings using the bond-yield-plus-risk-premium approach?
    (v) What is Rollins' WACC, if the firm has insufficient retained earnings to fund the equity portion of its
    capital budget?

    Answer:

    Kd=[Int+(M-Nd)/n]/[(Nd+M)/2]

    = [60+(1000-1000)/40]/[(1000+1000)/2]

    = 0.06 (Semi Annually)

    Annually= 0.06*2= 0.12

    After tak Kd= kd(1-tc)

    = 0.12(1-0.40)

    = 0.072

    Cost of preferred stock

    Kp=Div1/(Po-Fc)

    = (100*0.12)/(100-5)

    = 0.1263

    = 12.63%

    Ke= Rf+B((RM-RF)

    = 0.10+ 1.2*0.05

    = 0.16
    Ke= (Div1/Po)+g

    = ((2*1.08)/27)+0.08

    = 0.16

    Ke= Bonds Yields + Risk Premium

    = 0.12+ 0.04

    = 0.16

    WACC= (WD*Kd)+(Wp*Kp)+(We*Ke)

    = (0.20*0.72) + (0.20*0.1263) + (0.60*0.16)

    = 0.1357

    = 13.57%

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