Question

9. AllCity, Inc., is financed 45% with debt, 13% with preferred stock, and 42% with common stock. Its cost of debt is 6.3%, its preferred stock pays an annual dividend of $2.47 and is priced at $30. It has an equity beta of 1.15. Assume the risk-free rate is 2.2%, the market risk premium is 7.3% and AllCity's tax rate is 35%. What is its after-tax WACC? Note: Assume that the firm will always be able to utilize its full interest tax shield. The WACC is %. (Round to two decimal places.)

Answer 1

Step-1:Calculation of cost of each component of capital
After tax cost of debt	=	Before tax cost of debt*(1- tax rate)
	=	6.3%*(1-0.35)
	=	4.10%
Cost of preferred stock	=	Annual dividend	/	Current Price
	=	$       2.47	/	$    30.00
	=	8.23%
Cost of common stock	=	Risk free rate + beta *market risk premium
	=	2.2%+1.15*7.3%
	=	10.60%
Step-2:Calculation of after tax WACC
			Weight	Cost
			a	b	c=a*b
	Debt		45%	4.10%	1.84%
	Preferred stock		13%	8.23%	1.07%
	Common Stock		42%	10.60%	4.45%
	Total				7.36%
So, WACC is 7.36%