Question

TAFKAP Industries has 2 million shares of stock outstanding selling at $16 per share, and an issue of $12 million in 8.0 percent annual coupon bonds with a maturity of 15 years, selling at 105 percent of par. Assume TAFKAP’s weighted average tax rate is 21 percent, it can make full use of the interest tax shield, and its cost of equity is 14.0 percent. What is TAFKAP’s WACC? (Do not round intermediate calculations. Round your final answer to 2 decimal places.)

Answer 1

Answer : Calculation of WACC

Calculation of Weight of Equity and Debt of the firm :

Market Value of Equity = Number of Equity shares * Price per share

= 2,000,000 * 16

= 32,000,000

Market Value of Debt = Number of Bond Outstanding * Price per Bond

= 12,000,000 * 105%

= 12,600,000

Total Market Value = 32,000,000 + 12,600,000

= 44,600,000

Weight of Equity = Market Value of Equity / Total Market Value

= 32,000,000 / 44,600,000

= 0.71748878923 or 0.7175

Weight of Debt = Market Value of Debt / Total Market Value

= 12,600,000 / 44,600,000

= 0.28251121077 or 0.2825

Calculation of Cost of Equity and After-Tax Cost of Debt of the firm

Cost of Equity = 14%

After-Tax Cost of Debt of the firm

Caculation of Cost of Debt

Using Financial Calculator

=RATE(nper,pmt,pv,fv)

where nper is Number of years to maturity i.e 15

pmt is Interest payment i.e 1000 * 8% = 80

pv is Current Market Price

= - 1050 (1000 * 105%)

Note : pv should be taken as negative.

fv is face value i.e 1000 (Assumed)

=RATE(15,80,-1050,1000)

Before tax cost of Debt is 7.436%

After tax cost of Debt = * (1 - Tax rate )

=7.436% * (1 - 0.21)

= 5.87%

Calculation of WACC of the Firm

WACC = (Cost of After tax Debt * Weight of Debt) + ( Cost of Equity * Weight of Equity)

= (5.87% * 0.2825) + (14% * 0.7175)

= 1.66% + 10.04484%

= 11.70%