Question

1. What is the yield to maturity on the bond issue?
2. What percentages do the loan and bond issue contribute to the firm’s total debt?
3. Find the after-tax weighted average cost of debt.
4. What is cost of common stock?
5. What is the market value of the common stock?
6. What are the percentages of debt and equity in the firm’s capital structure?
7. What is the firm’s weighted average cost of capital?

Loan		Common stock
Amount	$10,000,000	Beta	1.10
Interest rate	0.045	Shares outstanding	10,000,000
Bond issue		Price per share	$5.00
30 yr. AAA rated
Number issued	21,000
Price per bond	$1,100

Tax rate 30%               Riskfree rate 3%           Market rate 11%

Answer 1

1)

As coupon rates are not provided, I am assuming its a zero coupon bond.

Bond price = Face value / (YTM)^30

1100 = 1000 / (YTM)^30 Assuming Face Value = $1000

Yield to maturity = 0.9968%

2)

Bond issued at the face value would be = 21,000 x 1,100 = 23,100,000

Loan amount = 10,000,000

Total Debt = 33,100,000

Percentage of bond issue = 23,100,000 / 33,100,000 = 0.6979%

Percentage of loan issue = 10,000,000 / 33,100,000 = 0.3021%

3)

Cost of Debt = Interest rate x (1-Tax rate)

= 0.045 x (1-0.3)

Cost of Debt = 0.0315

4)

Cost of Common stock = Risk-free rate + Beta(Market rate - Risk-free rate)

= 0.03 + 1.10(0.11-0.03)

Cost of Common stock = 0.118 or 11.8%

5)

Market Value of Common stock = Shares outstanding x Price per share

Market Value of Common stock = 10,000,000 x 5 = 50,000,000

6)

Total Debt = 33,100,000 (From answer 2)

Total amount raised = 50,000,000 + 33,100,000 = 83,100,000

Weight of Debt = 33,100,000 / 83,100,000 = 0.3983

Weight of Common stock = 50,000,000 / 83,100,000 = 0.6017

7)

WACC = (Weight of debt x cost of debt) + (Weight of Common stock x cost of Common stock)

= (0.3983 x 0.0315) + (0.6017 x 0.118)

= 0.0125 + 0.0710

WACC = 0.0835