Question

Dinklage Corp. has 9 million shares of common stock outstanding. The current share price is $81, and the book value per share is $7. The company also has two bond issues outstanding. The first bond issue has a face value of $130 million, a coupon rate of 6 percent, and sells for 92 percent of par. The second issue has a face value of $115 million, a coupon rate of 5 percent, and sells for 103 percent of par. The first issue matures in 24 years, the second in 10 years.

Suppose the most recent dividend was $4.85 and the dividend growth rate is 5.2 percent. Assume that the overall cost of debt is the weighted average of that implied by the two outstanding debt issues. Both bonds make semiannual payments. The tax rate is 22 percent. What is the company’s WACC? (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=81*9000000

=729000000

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

MV of Bond1=1000*130000*0.92

=119600000

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

MV of Bond2=1000*115000*1.03

=118450000

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

=729000000+119600000+118450000

=967050000

Weight of equity = MV of Equity/MV of firm

Weight of equity = 729000000/967050000

W(E)=0.7538

Weight of debt = MV of Bond/MV of firm

Weight of debt = 238050000/967050000

W(D)=0.2462

Cost of equity

As per DDM

Price = recent dividend* (1 + growth rate )/(cost of equity - growth rate)

81 = 4.85 * (1+0.052) / (Cost of equity - 0.052)

Cost of equity% = 11.5

Cost of debt

Bond1

K = Nx2

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

k=1

K =24x2

920 =∑ [(6*1000/200)/(1 + YTM/200)^k]     +   1000/(1 + YTM/200)^24x2

k=1

YTM1 = 6.673137926

Bond2

K = Nx2

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

k=1

K =10x2

1030 =∑ [(5*1000/200)/(1 + YTM/200)^k]     +   1000/(1 + YTM/200)^10x2

k=1

YTM2 = 4.62

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

Firm cost of debt=6.673137926*(119600000)/(119600000+118450000)+4.62*(119600000)/(119600000+118450000)

Firm cost of debt=5.65%

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

After tax cost of debt = 5.65*(1-0.22)

= 4.407

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

WACC=4.41*0.2462+11.5*0.7538

WACC =9.75%