Question

Easy Car Corp. is a grocery store located in the Southwest. It paid an annual dividend of ​$4.00 last year to its shareholders and plans to increase the dividend annually at the rate of 3.0​%. It currently has 1,000,000 common shares outstanding. The shares currently sell for ​$13 each. Two years ago, Easy Car Corp. issued 40,000 semiannual 20-year bonds with a coupon rate of 8​% and a par value of ​$1,000. The bonds currently have a yield to maturity​ (YTM) of 11%. What is the weighted average cost of capital (WACC) for Easy Car Corp. if the corporate tax rate is 20%?

Answer 1

COst of Equity = [ D0 ( 1 + g ) / Price ] + Growth rate

= [ $ 4.00 ( 1 + 0.03 ) / $ 13 ] + 0.03

= [ $ 4.12 / $ 13 ] + 0.03

= 0.3169 + 0.03

= 0.3469

Equity = Price * Qty

= $ 13 * 1000000

= $ 13,000,000

Price of Bond:

Bond Price:
It refers to the sum of the present values of all likely coupon payments plus the present value of the par value at maturity. There is inverse relation between Bond price and YTM ( Discount rate ) and Direct relation between Cash flow ( Coupon/ maturity Value ) and bond Price.

Price of Bond = PV of CFs from it.

Period	Cash Flow	PVF/ PVAF @5.5 %	Disc CF
1 - 36	$                   40.00	15.5361	$                 621.44
36	$             1,000.00	0.1455	$                 145.52
Bond Price			$                 766.96

As Coupon Payments are paid periodically with regular intervals, PVAF is used.
Maturity Value is single payment. Hence PVF is used.

Periodic Cash Flow = Annual Coupon Amount / No. times coupon paid in a year
Disc Rate Used = Disc rate per anum / No. of times coupon paid in a Year

What is PVAF & PVF ???
PVAF = Sum [ PVF(r%, n) ]
PVF = 1 / ( 1 + r)^n
Where r is int rate per Anum
Where n is No. of Years

How to Calculate PVAF using Excel ???
+PV(Rate,NPER,-1)
Rate = Disc rate
Nper = No. of Periods

Cost of debt after Tax = YTM ( 1 - Tax Rate )

= 11% ( 1 - 0.2 )

= 11% * 0.8

= 8.8%

Debt = Price * Qty

= $ 766.96 * 40000

= $ 30678400

WACC = Weighted Avg cost of sources of finance in capital structure.

Source	Qty	Price	Value	Weight	Cost after Tax	Weighted Cost
Debt1	40000	$    766.96	$            30,678,400.00	0.7024	8.80%	6.18%
Equity Stock	1000000	$       13.00	$            13,000,000.00	0.2976	34.69%	10.32%
WACC						16.51%

WACC is 16.51%