Question

The Saunders Investment Bank has the following financing outstanding.      Debt: 47,000 bonds with a coupon rate of 5.2 percent and a current price quote of 105.5; the bonds have 16 years to maturity and a par value of $1,000. 16,300 zero coupon bonds with a price quote of 25.3, 25 years until maturity, and a par value of $10,000. Both bonds have semiannual compounding.   Preferred stock: 142,000 shares of 3.7 percent preferred stock with a current price of $89 and a par value of $100.   Common stock: 2,040,000 shares of common stock; the current price is $79 and the beta of the stock is 1.15.   Market: The corporate tax rate is 22 percent, the market risk premium is 7.2 percent, and the risk-free rate is 3.2 percent.    What is the WACC for the company? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Answer 1

MV of equity=Price of equity*number of shares outstanding

MV of equity=79*2040000

=161160000

MV of Bond1=Par value*bonds outstanding*%age of par

MV of Bond1=1000*47000*1.055

=49585000

MV of Bond2=Par value*bonds outstanding*%age of par

MV of Bond2=1000*16300*0.253

=4123900

MV of Preferred equity=Price*number of shares outstanding

MV of Preferred equity=89*142000

=12638000

MV of firm = MV of Equity + MV of Bond1+ MV of Bond 2+ MV of Preferred equity

=161160000+49585000+4123900+12638000

=227506900

Weight of equity = MV of Equity/MV of firm

Weight of equity = 161160000/227506900

W(E)=0.7084

Weight of debt = MV of Bond/MV of firm

Weight of debt = 53708900/227506900

W(D)=0.2361

Weight of preferred equity = MV of preferred equity/MV of firm

Weight of preferred equity = 12638000/227506900

W(PE)=0.0555

Cost of equity

As per CAPM

Cost of equity = risk-free rate + beta * (Market risk premium)

Cost of equity% = 3.2 + 1.15 * (7.2)

Cost of equity% = 11.48

Cost of debt

Bond1

K = Nx2

Bond Price =∑ [(Semi Annual Coupon)/(1 + YTM/2)^k]     +   Par value/(1 + YTM/2)^Nx2

k=1

K =16x2

1055 =∑ [(5.2*1000/200)/(1 + YTM/200)^k]     +   1000/(1 + YTM/200)^16x2

k=1

YTM1 = 4.706869676

Bond2

K = Nx2

Bond Price =∑ [(Semi Annual Coupon)/(1 + YTM/2)^k]     +   Par value/(1 + YTM/2)^Nx2

k=1

K =25x2

253 =∑ [(0*1000/200)/(1 + YTM/200)^k]     +   1000/(1 + YTM/200)^25x2

k=1

YTM2 = 5.57

Firm cost of debt=YTM1*(MV bond1)/(MV bond1+MV bond2)+YTM2*(MV bond2)/(MV bond1+MV bond2)

Firm cost of debt=4.706869676*(49585000)/(49585000+4123900)+5.57*(49585000)/(49585000+4123900)

Firm cost of debt=4.77%

After tax cost of debt = cost of debt*(1-tax rate)

After tax cost of debt = 4.77*(1-0.22)

= 3.7206

cost of preferred equity

cost of preferred equity = Preferred dividend/price*100

cost of preferred equity = 3.7/89*100

=4.16

WACC=after tax cost of debt*W(D)+cost of equity*W(E)+Cost of preferred equity*W(PE)

WACC=3.72*0.2361+11.48*0.7084+4.16*0.0555

WACC =9.24%