Question

You are given the following information for Lightning Power Co. Assume the company's tax rate is 24 percent. Debt 24.000 73 percent coupon bonds outstanding. $1,000 par value, 18 years to maturity, selling for 107 percent of par, the bonds make semiannual payments. Common stock: 570,000 shares outstanding, selling for $75 per share; beta is 1.19. Preferred stock 25,500 shares of 5.1 percent preferred stock outstanding, currently selling for $96 per share. The par value is $100 per share. Market: 6 percent market risk premium and 4.9 percent risk-free rate. 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.) WACC

Answer 1

Answer:

Debt:

Number of bonds outstanding = 24,000
Face Value = $1,000
Current Price = 107% * $1,000 = $1,070

Value of Debt = 24,000 * $1,070
Value of Debt = $25,680,000

Annual Coupon Rate = 7.30%
Semiannual Coupon Rate = 3.65%
Semiannual Coupon = 3.65% * $1,000 = $36.50

Time to Maturity = 18 years
Semiannual Period to Maturity = 36

Let semiannual YTM be i%

$1,070 = $36.50 * PVIFA(i%, 36) + $1,000 * PVIF(i%, 36)

Using financial calculator:
N = 36
PV = -1070
PMT = 36.50
FV = 1000

I = 3.31%

Semiannual YTM = 3.31%
Annual YTM = 2 * 3.31%
Annual YTM = 6.62%

Before-tax Cost of Debt = 6.62%
After-tax Cost of Debt = 6.62% * (1 - 0.24)
After-tax Cost of Debt = 5.03%

Common Stock:

Number of shares outstanding = 570,000
Current Price = $75

Value of Common Stock = 570,000 * $75
Value of Common Stock = $42,750,000

Cost of Common Equity = Risk-free Rate + Beta * Market Risk Premium
Cost of Common Equity = 4.9% + 1.19 * 6.0%
Cost of Common Equity = 12.04%

Preferred Stock:

Number of shares outstanding = 25,500
Current Price = $96
Annual Dividend = 5.10% * $100 = $5.10

Value of Preferred Stock = 25,500 * $96
Value of Preferred Stock = $2,448,000

Cost of Preferred Stock = Annual Dividend / Current Price * 100
Cost of Preferred Stock = $5.10 / $96 * 100
Cost of Preferred Stock = 5.31%

Value of Firm = Value of Debt + Value of Common Stock + Value of Preferred Stock
Value of Firm = $25,680,000 + $42,750,000 + $2,448,000
Value of Firm = $70,878,000

Weight of Debt = $25,680,000 / $70,878,000
Weight of Debt = 0.3623

Weight of Common Stock = $42,750,000 / $70,878,000
Weight of Common Stock = 0.6031

Weight of Preferred Stock = $2,448,000 / $70,878,000
Weight of Preferred Stock = 0.0345

WACC = Weight of Debt*After-tax Cost of Debt + Weight of Common Stock*Cost of Common Stock + Weight of Preferred Stock*Cost of Preferred Stock
WACC = (0.3623 * 5.03%) + (0.6031 * 12.04%) + (0.0345 * 5.31%)
WACC = 9.27%