Question

Given the following information for Tribune Corporation, find the WACC. Assume the company s tax rate is 25 percent. Debt: 18,000 bonds outstanding, 6 percent coupon, $1,000 par value, 10 years to maturity, selling for 98 percent of par; the bonds make semiannual coupon payments. Common stock: 250,000 shares outstanding, selling for $30 per share; the beta is 1.60. Market: 7 percent market risk premium and 4.0 percent risk-free rate.

		6.97%
		7.26%
		7.53%
		7.84%
		8.17%

Answer 1

Debt:

Number of bonds outstanding = 18,000
Face Value = $1,000

Current Price = 98% * $1,000
Current Price = $980

Value of Debt = 18,000 * $980
Value of Debt = $17,640,000

Annual Coupon Rate = 6%
Semiannual Coupon Rate = 3%
Semiannual Coupon = 3%*$1,000
Semiannual Coupon = $30

Time to Maturity = 10 years
Semiannual Period to Maturity = 20

Let semiannual YTM be i%

$980 = $30 * PVIFA(i%, 20) + $1,000 * PVIF(i%, 20)

Using financial calculator:
N = 20
PV = -980
PMT = 30
FV = 1000

I = 3.136%

Semiannual YTM = 3.136%
Annual YTM = 2 * 3.136%
Annual YTM = 6.272%

Before-tax Cost of Debt = 6.272%
After-tax Cost of Debt = 6.272% * (1 - 0.25)
After-tax Cost of Debt = 4.704%

Equity:

Number of shares outstanding = 250,000
Current Price = $30

Value of Common Stock = 250,000 * $30
Value of Common Stock = $7,500,000

Cost of Equity = Risk-free Rate + Beta * Market Risk Premium
Cost of Equity = 4.0% + 1.60 * 7.0%
Cost of Equity = 15.2%

Value of Firm = Value of Debt + Value of Equity
Value of Firm = $17,640,000 + $7,500,000
Value of Firm = $25,140,000

Weight of Debt = $17,640,000 / $25,140,000
Weight of Debt = 0.7017

Weight of Equity = $7,500,000 / $25,140,000
Weight of Equity = 0.2983

WACC = Weight of Debt * After-tax Cost of Debt + Weight of Equity * Cost of Equity
WACC = 0.7017 * 4.704% + 0.2983 * 15.200%
WACC = 7.84%