Question

How to calculate WACC for a company requires a capital infusion of $200,000 and refer to the following financial statements:

- ASSETS 2014 - 2013

CURRENT ASSETS

Cash 456,500 - 222,400

Receivables 3,936,400 - 3,320,000

Inventory 89,800 - 100,200

Other assets 119,500 - 84,300

Total current assets 4,602,200 - 3,726,900

LONG TERM ASSETS

Note Receivable 380,600 - 280,700

Equipment (net of depreciation) 975,000 - 1,017,800

Total long term assets 1,355,600 - 1,298,500

TOTAL ASSETS 5,957,800 - 5,025,400

- LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES

Accounts payable 2,783,100 - 2,805,700

Note payable (current maturities) 177,550 - 172,550

Other accrued liabilities 165,300 - 114,600

Total current liabilities 3,125,950 - 3,092,850

LONG TERM LIABILITIES

Notes payable (long term) 354,800 - 354,800

Long term accrued liabilities 289,550 - 220,250

Total long term liabilities 644,350 - 575,050

TOTAL LIABILITIES 3,770,300 - 3,667,900

- STOCKHOLDERS' EQUITY

Common stock 300,000 - 300,000

Retained Earnings 1,887,500 - 1,057,500

Total stockholders' equity 2,187,500 - 1,357,500

TOTAL LIABILITIES AND STOCKHOLDERS EQUITY 5,957,800 - 5,025,400

_________________________

Income Statement 2014 - 2013

Service Contract Revenues 9,700,000 - 6,295,400

Service Contract Costs (7,503,100) (4,957,800)

Gross Profit 2,196,900 - 1,337,600

General and Administrative Expenses (896,000) (756,000)

Operating Income 1,300,900 - 518,600

Gain on sale of equipment 59,900 - 7,700

Interest expense (69,500) (70,800)

Other expense (9,600) (63,100)

Income before taxes 1,281,700 - 455,400

Taxes (451,700) (300,900)

Net Income 830,000 - 154,500

Retained Earnings, Beginning Balance 1,057,500 - 1,053,000

1,887,500 - 1,207,500

Less: Dividends paid 0 - (150,000)

Retained Earnings, Ending Balance 1,887,500 - 1,057,500

Answer 1

Here to calculate WACC we need cost of debt and cost of equity.

For cost of debt r_d = Total interest expense for 2014 / total debt = 69500 / ( 177,550 + 354,800) = 13.05%.

Now tax rate can be calculated from net income = 35% approx.

So, after tax cost of debt = 8.48%.

Now for cost of equity we take net income available to common shareholders for 2014, as dividends are not being paid, also no info has been provided for current stock price and debt holders have already been paid and there are no prefferred shareholders as well. So all the net income is available to common shareholders as return.

So, k_e = 830,000 / 2187500 = 3.79%.

now % of debt = 19.6% and % of equity = 80.4%.

WACC = % of debt * after tax cost of debt + % of equity * cost of equity. = 19.6*8.48 + 80.4*3.79 = 4.71%.

NOTE: THESE RESULTS CAN'T BE VERY ACCURATE AS NO INFO FOR CURRENT STOCK PRICE WAS PROVIDED, HENCE VALUE OF EQUITY ISN'T CORRECT, BUT FROM THE GIVEN INFORMATION THIS IS THE BEST POSSIBLE SOLUTION.