Question

Given the following, calculate WACC for company XYZ:

Debt: $1,000M

Equity: $1,000M

Cost on Debt: 7.0%

Cost on Equity: 10.0%

Tax Rate: 35.0%

Based on the following information about Company X, which is true?
A/P Turnover: 24
Total Asset Turnover: 9
Days Payable Outstanding: 12
Times Interest Earned: 15
Debt/Equity: .7

Company X generates $9 in sales per dollar invested in assets

Company X has less equity than debt

Company X pays bills in 24 days

Company X pays interest in 15 days

Company X pays bills in 5 days

Answer 1

1)

After tax WACC = w_D * (1-T) * r_D + w_E * r_E

w_{D ,} w_E are weights of Debt and Equity in total capital respectively

T is the tax rate = 35% = 0.35

r_E , r_D are cost of equity and debt respectively

(1-T) is used with debt because interest (cost of debt) is tax deductible.

w_D = Debt / (Debt + Equity) = 1000/ (1000+1000) = 0.5

w_E = Equity / (Debt+Equity)    = 1000/ (1000+1000) = 0.5

After tax WACC = 0.5 * (1-0.35) * 7% + 0.5 * 10%

= 7.275 %

2)

Company X generates $9 in sales per dollar invested in assets- Correct

Asset turnover = sales/ total assets

means sales generated per $ invested in assets

Company X has less equity than debt- Incorrect Debt / Equity = Total debt / Total equity = 0.7 Means 0.7 $ debt for 1$ of Equity. Debt is lesser Company X pays bills in 24 days - Incorrect A/P turnover is sales/accounts payable . It is not days of payables outstanding Company X pays interest in 15 days- Incorrect Times interest earned is an interest coverage ratio = EBIT/ Interest Company X pays bills in 5 days- Incorrect Days of payables outstanding is 12. that is company pays bills in 12 days