Question

Mercado, Inc. has 5,400,000 common shares outstanding at a price of $ 64 each. He has 290,000 preferred shares outstanding with a 5.6% dividend based on the par value of $ 100, which sell for $ 103 each. It has issued 125,000 bonds at 109% of their par value of $ 1,000, with a yield to maturity of 5.93%. The common share's beta is 1.13, the treasury bills rate is 4.3%, and the market risk premium is 6.8%. The applicable tax rate is 34%.

The proportion of common shares of total long-term financing is 67.54%

The cost of common stock is (using Capital Asset Pricing Model) is 11.98%.

The company's weighted average cost of capital (wacc) is
Select one:

a. 7.09%
b. It cannot be calculated with the expected information.
c. 9.45%
d. 10%

Answer 1

Given about Mercado Inc,

number of common shares outstanding = 5400000

price per share = $64

So, market value of common share = price*shares = 64*5400000 = $345600000

number of preferred shares outstanding = 290000

price per share = $103

So, market value of preferred share = price*shares =103*290000 = $29870000

Cost of common share Ke = 11.98%

dividend rate = 5.6% of par value 100

=> dividend = $5.6

So, cost of preferred stock using perpetuity model is annual dividend/current price

=> Kp = 5.6/103 = 5.44%

number of bonds outstanding = 125000

price of bonds = 109% of 1000 = $1090

So, market value of debt = price*bonds = 1090*125000 = $136250000

Yield to maturity = 5.93%

For a company, its bonds YTM equals company's cost of debt Kd

=> Cost of debt Kd = 5.93%

So, weight of preferred stock Wp = MV of preferred stock/(MV of preferred stock + common shares + debt)

=> Wp = 29870000/(29870000+345600000+136250000) = 0.0584

Weight of common share We = 0.6754

Weight of debt Wd = 1-Wp-We = 1-0.0584-0.6754 = 0.2663

So, Weighted average cost of capital is

WACC = Wd*Kd*(1-T) + We*Ke + Wp*Kp = 0.2663*5.93*(1-0.34) + 0.6754*11.98 + 0.0584*5.44 = 9.45%

So, Weighted average cost of capital is 9.45%

Option C is correct.