Question

Western Electric has 31,000 shares of common stock outstanding at a price per share of $77 and a rate of return of 13.10 percent. The firm has 7,200 shares of 7.60 percent preferred stock outstanding at a price of $94.00 per share. The preferred stock has a par value of $100. The outstanding debt has a total face value of $398,000 and currently sells for 110 percent of face. The yield to maturity on the debt is 8.02 percent. What is the firm's weighted average cost of capital if the tax rate is 39 percent?

           
            A)    10.52%  
            B)    10.72%
            C)    11.10%
            D)    11.50%
            E)    10.29%
           

Please show work - we are not allowed to use excel on exam

Answer 1

Market value of common stock = 31,000 * 77 = 2,387,000

Market value of preferred shares = 7,200 * 94 = 676,800

Market value of debt = $398,000 * 110% = 437,800

Total market value = 2,387,000 + 676,800 + 437,800 = 3,501,600

Weight of common stock = (2,387,000 / 3,501,600) = 0.6817

Weight of debt = (437,800 / 3,501,600) = 0.1250

Weight of preferred stock = (676,800 / 3,501,600) = 0.1933

Preferred dividend = 7.6% of 100 = 7.6

Cost of preferred stock = (Preferred dividend / price) * 100

Cost of preferred stock = (7.6 / 94) * 100

Cost of preferred stock = 8.0851%

weighted average cost of capital = Weight of equity*cost of equity + Weight of preferred stock*cost of preferred stock + Weight of debt*after tax cost of deb

weighted average cost of capital = 0.6817*0.131* + 0.1933*0.080851 + 0.1250*0.0802*(1 - 0.39)

weighted average cost of capital = 0.089303 + 0.015628 + 0.006115

weighted average cost of capital = 0.1110 or 11.10%