Concept explainers
Calculating the WACC In the previous problem, suppose the company’s stock has a beta of 1.15. The risk-free rate is 3.7 percent, and the market risk premium is 7 percent. Assume that the overall cost of debt is the weighted average implied by the two outstanding debt issues. Both bonds make semiannual payments. The tax rate is 35 percent. What is the company’s WACC?
To determine: The WACC of the Company.
Introduction: The WACC (Weighted Average Cost of Capital) is the total rate of return for a company which anticipates reimbursing all their investors. It is considered as a financing resource in the target capital structure of a company and it measured in terms of weights of fractions.
Answer to Problem 9QP
The WACC of the Company is 9.87%
Explanation of Solution
Determine the Cost of Equity using CAPM
Therefore the Cost of Equity is 11.75%
Determine the Yield to Maturity for First Bond Issue
Using excel function =rate we calculate the yield to maturity as,
Excel Spreadsheet:
Therefore the Yield to Maturity for First Bond Issue is 5.69%
Determine the Yield to Maturity for Second Bond Issue
Using excel function =rate we calculate the yield to maturity as,
Excel Spreadsheet:
Therefore the Yield to Maturity for Second Bond Issue is 6.78%
Determine the Total Market Value of Debt
Therefore the Total Market Value of Debt is $141,150,000
Determine the Market Value of Equity
Therefore the Total Market Value of Equity is $439,900,000
Determine the Total Market Value of Company
Therefore the Total Market Value of Company is $581,050,000
Determine the Market Value Weights of Debt
Therefore the Market Value Weights of Debt is 75.71%
Determine the Market Value Weights of Equity
Therefore the Market Value Weights of Equity is 24.29%
Determine the Weight of First Bond Issue
Therefore the Weight of First Bond Issue is 53.71%
Determine the Weight of Second Bond Issue
Therefore the Weight of Second Bond Issue is 46.29%
Determine the Weighted Average After-tax for both the bond issues
Therefore the Weighted Average After-tax for both the bond issues is 4.03%
Determine the WACC of the Company
Therefore the WACC of the Company is 9.87%.
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Chapter 13 Solutions
Corporate Finance (The Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
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