In: Finance
Ten Pins Manufacturing has 8.2 million shares of common stock
outstanding. The current share price is $52, and the book value per
share is $3. The company also has two bond issues outstanding. The
first bond issue has a face value of $69.8 million and a coupon
rate of 6.9 percent and sells for 108.4 percent of par. The second
issue has a face value of $59.8 million and a coupon rate of 7.4
percent and sells for 108.7 percent of par. The first issue matures
in 7 years, the second in 28 years.
The company’s stock has a beta of 1.1. The risk-free rate is 3
percent, and the market risk premium is 6.9 percent. Assume that
the overall cost of debt is the weighted average implied by the two
outstanding debt issues. Both bonds make semiannual payments. The
tax rate is 34 percent. What is the company’s WACC?
1] | Overall cost of debt: | ||||
Cost of first bond: | |||||
Before tax cost of debt = YTM. | |||||
YTM using a financial calculator = 5.44% | |||||
After tax cost of first bond = 5.44%*(1-34%) = | 3.59% | ||||
Cost of second bond: | |||||
YTM using a financial calculator = 6.71% | |||||
After tax cost of second bond = 6.71%*(1-34%) = | 4.43% | ||||
Weighted average cost of debt: | |||||
Market Value [$ millions] | Weight of debt | Cost of debt | Weighted average cost | ||
First bond [69.8*108.4%] | $ 75.6632 | 53.79% | 3.59% | 1.93% | |
Second bond [59.8*108.7%] | $ 65.0026 | 46.21% | 4.43% | 2.05% | |
Total | $ 140.6658 | 100.00% | 3.98% | ||
Weighted average cost of debt | 3.98% | ||||
2] | Cost of equity per CAPM = risk free rate+beta*market risk premium = 3%+1.1*6.9% = | 10.59% | |||
3] | CALCULATION OF WACC: | ||||
Source of capital | Market Value [$ millions] | Weight | Component cost | WACC | |
Debt | $ 140.6658 | 24.81% | 3.98% | 0.99% | |
Equity [8.2*52] | $ 426.4000 | 75.19% | 10.59% | 7.96% | |
Total | $ 567.0658 | 100.00% | 8.95% | ||
WACC = | 8.95% |