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Western Electric has 35,000 ordinary shares outstanding at a price per share of $47 and a...

Western Electric has 35,000 ordinary shares outstanding at a price per share of $47 and a rate of return of 13.5%. The firm has 5,000 preference shares paying 7% dividend outstanding at a price of $58 a share. The preferred share has a par value of $100. The outstanding bond has a total face value of $450,000 and currently sells for 102% of face. The pre-tax yield-to-maturity on the bond is 8.49%.

Required:

a) Calculate the total market value of the firm.

b) Calculate the capital structure of the firm. (Please round up the result at 3 decimal

places)

c) Calculate the firm's weighted average cost of capital if the tax rate is 30%, assuming a classical tax system.

Solutions

Expert Solution

Debt:

Face Value of Debt = $450,000

Market Value of Debt = 102% * $450,000
Market Value of Debt = $459,000

Pre-tax Cost of Debt = 8.49%

After-tax Cost of Debt = 8.49% * (1 - 0.30)
After-tax Cost of Debt = 5.943%

Preferred Stock:

Number of shares outstanding = 5,000
Current Price = $58

Annual Dividend = 7.00% * $100
Annual Dividend = $7

Market Value of Preferred Stock = 5,000 * $58
Market Value of Preferred Stock = $290,000

Cost of Preferred Stock = Annual Dividend / Current Price
Cost of Preferred Stock = $7 / $58
Cost of Preferred Stock = 12.069%

Common Stock:

Number of shares outstanding = 35,000
Current Price = $47

Market Value of Common Stock = 35,000 * $47
Market Value of Common Stock = $1,645,000

Cost of Common Stock = 13.50%

Answer a.

Market Value of Firm = Market Value of Debt + Market Value of Preferred Stock + Market Value of Common Stock
Market Value of Firm = $459,000 + $290,000 + $1,645,000
Market Value of Firm = $2,394,000

Answer b.

Weight of Debt = $459,000 / $2,394,000
Weight of Debt = 0.192

Weight of Preferred Stock = $290,000 / $2,394,000
Weight of Preferred Stock = 0.121

Weight of Common Stock = $1,645,000 / $2,394,000
Weight of Common Stock = 0.687

Answer c.

WACC = Weight of Debt * After-tax Cost of Debt + Weight of Preferred Stock * Cost of Preferred Stock + Weight of Common Stock * Cost of Common Stock
WACC = 0.192 * 5.943% + 0.121 * 12.069% + 0.687 * 13.500%
WACC = 11.88%

jeff jeffy answered 1 year ago

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