29 Jun Question Taunton Construction Inc.’s situation is
Question
Taunton Construction Inc.’s situation is described as follows:
Debt: The firm issued 10,000 25-year bonds 10 years ago at their par value of $1,000. The bonds carry a coupon rate of 14% and are now selling to yield 10%
Preferred stock: Thirty thousand shares of preferred stock were sold six years ago at a par value of $50. The Shares pay a dividend of $6 per year. Similar preferred issues are now yielding 9%.
Equity: Taunton was initially financed by selling 2 million shares of common stock at $12. Accumulated retained earnings are now $5 million. The stock is currently selling at $13.25.
Tauntons target capital structure is as follows:
Debt 30%
Preferred stock 5%
Common Equity 65%
100%
Other info:
• Tauntons marginal tax rate (state and federal) is 40%
• Flotation cost average 12% for common and preferred stock
• Short-term treasury bills currently yeild 7.5%
• The market is returning 12.5%
• Tauntons beta is 1.2
• The firm is expected to grow at 6% indefinitely
• The last annual dividend paid was $1.00 per share
• Taunton expects to earn $5 million next year
• The firm can borrow an additional $2 million at rates similar to the market return on its old debt. Beyond that lenders are expected to demand returns in the neighborhood of 14%
• Taunton has the following capital budgeting projects under consideration in the coming year. These represent its investment opportunity schedule (IOS)
Project IRR Capt Required Cumulative Capital Req.
A 15% $3 million $3 million
B 14 2 million 5 million
C 13 2 million 7 million
D 12 2 million 9 million
E 11 2 million 11 million
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