Question
In: Finance
The Discover Company (NYSE: DIS) has debt of a par value of $13 billion and is...
The Discover Company (NYSE: DIS) has debt of a par value of $13 billion and is currently traded at 98.5% of the par value. The appropriate cost of debt for Discover is 2.5%, whereas the Treasury rate is 2%. Discover’s current stock price is $97 per share, and the company has 1.625 billion shares outstanding. Its equity beta is 1.1, and the expected return on the equity market is 8%. Discover has a 35% effective corporate tax rate. What is Discover’s current weighted average cost of capital?
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Expert Solution
| WEIGHTED AVERAGE COST OF CAPITAL | ||||
| Market value | Market value Weight(a) | cost (b) | Weighted average cost of capital(a*b) | |
| After tax cost of debt | 13*98.5%=12.805 | 12.805/170.43=.07513 | 2.5(1-.35)=1.625 | .12 |
| Equity | 1.625*97=157.625 | 157.625/170.43=.92487 | 8.60 | 7.95 |
| Total | 170.43 | |||
| Weighted average cost of capital | 8.07 | |||
**cost of equity =Risk free rate+ [Beta(market risk premium -risk free rate)]
= 2 + [1.1 (8-2)]
= 2+[1.1*6]
= 2 + 6.6
= 8.6%
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