Question

[Please use the data for this problem on the next few problems - aka save your work!] Suppose a firm has 24 million shares of common stock outstanding at a price of $14.5 per share. The firm also has 100,000 bonds outstanding with a current price of $1057.5. The outstanding bonds have yield to maturity 7.8%. The firm's common stock beta is 1.2 and the corporate tax rate is 35%. The expected market return is 13% and the T-bill rate is 1.5%.

a. What is the weight of equity used in the WACC for this firm? (Show your answer to 3 decimals.)

b. What is the weight of debt used in the WACC for this firm? (Show your answer to 3 decimals.)

c. Cost of equity (3 decimal places)?

d. After tax cost of debt? (4 decimal places)

e. What is the weighted average cost of capital (WACC)? (4 decimals)

Answer 1

a)	Value of Equity of the Firm
	= No. of Shares*Market Price
	= 24000000*$14.50
	= $348,000,000
	Value of Debt of the Firm
	= No of Bonds*Current Price of Bonds
	= 100000*$1057.50
	= $105,750,000
	Value of Firm
	= Value of Equity+Value of Debt
	= $348,000,000+$105,750,000
	= $453,750,000
	Weight of Equity used in WACC
	= Value of Equity / Value of Firm
	= $348,000,000 / $453,750,000
	= 0.767
b)	Weight of Debt used in WACC
	= Value of Debt / Value of Firm
	= $105,750,000 / $453,750,000
	= 0.233
c)	Cost of Equity using CAPM Model
	= Rf + β(Rm-Rf)
	Where,
	Rf = T-Bill Rate = 1.5%
	β = 1.2
	Rm = Expected Market Return = 13%
	So,
	Cost of Equity using CAPM Model
	= Rf + β(Rm-Rf)
	= 1.5% + 1.2(13%-1.5%)
	= 1.5% + 1.2*11.5%
	= 1.5% + 13.80%
	= 15.300%
d)	After Tax Cost of Debt
	= Yield to Maturity(1-Tax Rate)
	= 7.8%(1-35%)
	= 7.8%*0.65
	= 5.070%
e)	Weighted Average Cost of Capital
	Particulars	Cost	Weight	Cost*Weight
	Equity	15.30%	0.767	11.7351
	Debt	5.07%	0.233	1.18131
			WACC	12.9164