Questions 1. a. Discuss the specific items of capital that should be included in the WACC. b. The comptroller currently finds the weights for the weighted average cost of capital (WACC) from information from the balance sheet shown in Table 2. Compute the book value weights that the comp­trol­ler currently uses for the company’s capital structure. c. Based on the suggestion that the focus should be on market values, compute the weights of debt, preferred stock, and common stock. d. Are book value or market value weights better for calculating the firm’s weighted average cost of capital? 2. a. Critique Ace Repair’s current method of estimating its before-tax cost of debt. b. Is the earnings yield (E/P) an appropriate measure …show more content…

The average of all published analysts’ “long run” forecasts—which are generally not specific but are often for the next 5 to 7 years—is a rate of about 16 percent. 7. A prominent investment banking firm recently estimated that the mar­ket risk premium is 6 percentage points over 30-year Treasury bonds. Security analysts have asked portfolio managers what risk premium they demand on a given company’s stock over bonds. The analysts have compiled results which generally indicated a 3–5% premium above bond returns. Furthermore, based on historical data, Ibbotson Associates has found that the return premium of stocks over T-bonds has averaged about 7.0 percent from 1926 through 1995. Ace’s historical beta as meas­ured by several analysts is 1.3. 8. The going interest rate on an index of A-rated long-term corporate bonds is 8.0 percent. 9. Ace is forecasting earnings of $17,127,000 and depreciation of $4,500,000 for 1996. As in the recent past, about 20 percent of earnings will be paid out as dividends. 10. Ace’s investment bankers believe that a new issue of common stock would require total flotation costs—including underwriting costs, market pressure from increased supply, and market pressure from negative signaling effects—of 30 percent. 11. Several years ago Vanderhein wrote into the company’s strategic business plan the statement that Ace’s target capital