Question

Given the following information for a Electronics company, find its WACC. Assume the company’s tax rate is 25 percent. Debt: 28,000, 6.2 percent coupon bonds outstanding, $1,000 par value, 20 years to maturity, selling for 99 percent of par; the bonds make semiannual coupon payments. Common stock: 360,000 shares outstanding, selling for $51 per share; the beta is 1.82. Market: 7.0 percent market risk premium and 3.6 percent risk-free rate.

A.

7.95%

B.

8.30%

C.

8.65%

D.

9.00%

E.

9.35%

Answer 1

Weight of each instruments:

Particulars	Price = P	Quantity = Q	Value = P x Q	Weight = W = V / TV
Debt	$990.00	28,000	27,720,000	0.6016
Equity	$51.00	360,000	18,360,000	0.3984
		Total = TV	46,080,000

Cost of debt:

Frequency	2
Tax	25%
Using financial calculator BA II Plus - Input details:	#
FV = Future Value / Face Value =	-$1,000.00
PV = Present Value = Value of bond = 1000 x 99% =	$990.00
N = Number of years remaining x frequency = 20 x 2 =	40
PMT = Payment = Coupon rate x Face value / frequency = 6.2% x FV /2 =	-$31.00
CPT > I/Y = Rate per period =	3.14428
Before tax cost of debt = YTM = Frequency/100 x Rate = 2/100*3.144277 =	6.28855%
After tax cost of debt = YTM x (1-Tax) = 0.062886*(1-0.25) =	4.71642%

Cost of equity:

CAPM model:

Cost of equity = Risk free rate + Beta x Market risk premium

Cost of equity = 3.6% + 1.82 * 7%

Cost of Equity = 16.3400%

Now,

Weighted average cost of capital computation: WACC

WACC = Cost of equity x Weight of equity + Cost of debt x Weight of debt x (1-Tax rate)

WACC = 16.34%*0.3984 + 6.28855%*0.6016*(1-25%)

WACC = 9.3476876%

i.e.

WACC = 9.35%

Correct option is: E. 9.35%