Question

Filer Manufacturing has 5 million shares of common stock outstanding. The current share price is $84, and the book value per share is $7. Filer Manufacturing also has two bond issues outstanding. The first bond issue has a face value of $60 million, has a 7 percent coupon, and sells for 94 percent of par. The second issue has a face value of $35 million, has a 8 percent coupon, and sells for 107 percent of par. The first issue matures in 22 years, the second in 4 years. The most recent dividend was $5.6 and the dividend growth rate is 8 percent. Assume that the overall cost of debt is the weighted average of that implied by the two outstanding debt issues. Both bonds make semiannual payments. The tax rate is 35 percent. Required: What is the company's WACC? (Do not round your intermediate calculations.)

Answer 1

Market Value of Equity = No of shares outstanding * Market price of share = 5 * 84 = 420 million
Cost of Equity = Dividend * ( 1+ growth)/Price of share + Growth = 5.6 * ( 1 + 8%)/84 + 8% = 15.2%

Market Value of Bond 1 with maturity 22 years = Face value * 94% = 60 * 94% = 56.4 Million
Lets assume Face Value = 1000
Coupon = 7%
Price = 94% * Face Value = 94% * 1000 = 940
Maturity = 22
Semi annual Coupon = Coupon rate * Par value /2 = 7% * 1000/2 = 35
Price = (C)/(1+YTM/2)^2t + Face Value /(1+YTM/2)^2t
940 = 35/(1+YTM/2)^2t + 1000 /(1+YTM/2)^2t
YTM = 7.56%

Market Value of Bond 2 with maturity 4 years = Face value * 94% = 35 * 107% = 37.45 Million
Lets assume Face Value = 1000
Coupon = 8%
Price = 107% * Face Value = 107% * 1000 = 1070
Maturity =4 years
Semi annual Coupon = Coupon rate * Par value /2 = 8% * 1000/2 = 40
Price = (C)/(1+YTM/2)^2t + Face Value /(1+YTM/2)^2t
1070 = 40/(1+YTM/2)^2t + 1000 /(1+YTM/2)^2t
YTM = 6%

Weighted avaerage cost of Debt = 56.4 /(56.4 + 37.45) * 7.56% + 37.45/(56.4 + 37.45) * 6% = 6.937%
Total; Debt = 56.4 + 37.45 = 93.85
Total Value = Total Debt + Total Equity = 93.85 + 420 = 513.85

WACC = Total Equity/Total Value * Cost Of Equity + Total Debt/Total Value * Cost of Debt * ( 1-Tax rate) = 420/513.85 * 15.2% + 93.85/513.85 * 6.937% * ( 1- 35%) = 13.25%

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