Question

Badger Corp. has an issue of 6% bonds outstanding with 6 months left to maturity. The bonds are currently priced at $998.89, and pay interest semiannually. The firm's marginal tax rate is 40%. The estimated risk premium between the company's stock and bond returns is 5%. The firm's expects to maintain a capital structure with 40% debt and 60% equity going forward. The company's W.A.C.C. is ____%. Round your final answer to 2 decimal places (example: enter 12.34 for 12.34%), but do not round any intermediate work in the process. Margin of error for correct responses: +/- .05.

Answer 1

K = Nx2

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

k=1

K =0.5x2

998.89 =∑ [(6*1000/200)/(1 + YTM/200)^k]     +   1000/(1 + YTM/200)^0.5x2

k=1

YTM% = 6.23 = cost of debt

cost of equity= cost of debt+risk premium =6.23+5=11.23%

Weight of equity = 1-D/A

Weight of equity = 1-0.4

W(E)=0.6

Weight of debt = D/A

Weight of debt = 0.4

W(D)=0.4

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

After tax cost of debt = 6.23*(1-0.4)

= 3.738

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

WACC=3.74*0.4+11.23*0.6

WACC =8.23%