Question

The Saunders Investment Bank has the following financing outstanding.

Debt: 59,000 bonds with a coupon rate of 5.2 percent and a current price quote of 106.3; the bonds have 14 years to maturity and a par value of $1,000. 18,700 zero coupon bonds with a price quote of 21.4, 28 years until maturity, and a par value of $10,000. Both bonds have semiannual compounding.

Preferred stock: 154,000 shares of 3 percent preferred stock with a current price of $85 and a par value of $100.

Common stock: 2,280,000 shares of common stock; the current price is $91 and the beta of the stock is 1.15.

Market: The corporate tax rate is 24 percent, the market risk premium is 7.2 percent, and the risk-free rate is 3.4 percent.

What is the WACC for the company?

Answer 1

Price of Bond 1 =1063
Market value of Bond 1=Number of Bonds*Price of Bond =59000*1063 =62717000
Par Value =1000
Number of Periods =14*2 =28
Semi annual Coupon =5.2%*1000/2 =26
YTM using financial calculator
N=28;PMT=26;PV=-1063;FV =1000;CPT I/Y =2.2926%
YTM =2*2.2926% =4.5852%
Price of Bond 2 =21.4*10000/100 =2140
Market Value of Bond 2 =Number of Bonds*Price of Bond =18700*2140 =40,018,000
Number of Periods =2*28 =56
YTM =2*((Par Value/Price)^(1/n)-1) =(10000/2140)^(1/56)-1=5.5829%

Total Value of Debt =62717000+40018000=102735000

Cost of Debt =Weight of Debt 1*Cost of Debt 1+Weight of Debt 2 *Cost of Debt 2
=62717000/102735000*4.5852%+40018000/102735000*5.5829%=4.9738%

Market Value of Preferred Stock =Number of Shares*Current Price of share =154000*85 =13090000
Cost of Preferred Stock =3%*100/85 =3.5294%

Market Value of equity =Number of Shares*Share Price =2280000*91 =207480000
Cost of equity =Risk Free Rate+Beta*(Market return-Risk Free Rate) =3.4%+1.15*7.2% =11.68%

Total Value of Firm =102735000+13090000+207480000=323305000
WACC =Weight of Equity*Cost of Equity+Weight of Preferred Stock*Cost of Preferred Stock+Weight of Debt*Cost of Debt*(1-Tax Rate)
=207480000/323305000*11.68%+13090000/323305000*3.5294%+102735000/323305000*4.9738%*(1-24%) =8.84%