Question

Note

This is a guideline and is not meant to show you exactly step-by-step how to do the project (although it comes close to doing that). In the “real world”, your boss is not going to show you how to do everything. She is going to ask you to do something and you are going to have to do it to the best of your ability.

Objective

The assignment is to estimate the weighted average cost of capital (WACC) for an actual corporation as of the current time. Actual managers would need to know their company’s WACC as a starting point to estimate the discount rate to use in the net present value analysis of new projects.

The project also develops student skills in using elementary financial management models, in dealing with situations where there are too much or too little data, in employing publicly available data sources with little guidance, and in applying sound judgment when encountering naturally occurring measurement errors.

Please see the detailed instructions in the file attachment: Final Project Instructions.

Answer 1

WACC stand for the wighted average cost of capital, with its major components being cost of debt and cost of equity.

Let's start with the calculation of WACC for Apple Inc.

Risk free rate = US govt 10 year maturity bond = 0.74%

Default spread of Apple = 0.63% (Rated AA1 by Moody's)

Equity market risk premium = 6.1% = (Market return - risk free rate)

Tax rate = 35%

Beta = 1.31

Cost of debt = Risk free rate + default spread = 0.74% + 0.63% = 1.37%

After tax cost of debt = cost of debt * (1 - tax) = 1.37 *(1 - .35) = 0.8905%

Cost of equity = Risk free rate + beta*equity risk premium = 0.73% + 1.31*6.1% = 0.73% + 7.991% = 8.721%

Apple's debt (D)= 122.19 Billion.

Apple's market cap (E)= 2000Billion

D/(D+E) = 122.19/2122.19 = 0.0575

E/(D+E) = 2000/2122.19 = .9424

WACC = (after tax cost of debt * D/(D+E)) + ( cost of equity * E/(D+E))

= 0.8905 * 0.0575 + 8.721 * 0.9424

= 0.0512 + 8.2186

=8.27%

Therefore WACC of Apple Inc is 8.27%

Please see that the above data like beta, debt, market cap of equity etc can be calculated on by own or can be taken from any financials sites.