Debt:
Number of bonds outstanding = 8,400
Face Value = $2,000
Current Price = 106.50% * $2,000
Current Price = $2,130
Value of Debt = 8,400 * $2,130
Value of Debt = $17,892,000
Annual Coupon Rate = 7.00%
Semiannual Coupon Rate = 3.50%
Semiannual Coupon = 3.50% * $2,000
Semiannual Coupon = $70
Time to Maturity = 25 years
Semiannual Period to Maturity = 50
Let Semiannual YTM be i%
$2,130 = $70 * PVIFA(i%, 50) + $2,000 * PVIF(i%, 50)
Using financial calculator:
N = 50
PV = -2130
PMT = 70
FV = 2000
I = 3.236%
Semiannual YTM = 3.236%
Annual YTM = 2 * 3.236%
Annual YTM = 6.472%
Before-tax Cost of Debt = 6.472%
After-tax Cost of Debt = 6.472% * (1 - 0.25)
After-tax Cost of Debt = 4.854%
Preferred Stock:
Number of shares outstanding = 9,000
Current Price = $95
Annual Dividend = 4.50% * $100
Annual Dividend = $4.50
Value of Preferred Stock = 9,000 * $95
Value of Preferred Stock = $855,000
Cost of Preferred Stock = Annual Dividend / Current Price
Cost of Preferred Stock = $4.50 / $95
Cost of Preferred Stock = 4.737%
Equity:
Number of shares outstanding = 275,000
Current Price = $65.50
Value of Equity = 275,000 * $65.50
Value of Equity = $18,012,500
Using CAPM:
Cost of Equity = Risk-free Rate + Beta * (Market Return -
Risk-free Rate)
Cost of Equity = 4.10% + 1.04 * (11.00% - 4.10%)
Cost of Equity = 11.276%
Using DDM:
Cost of Equity = Expected Dividend / Current Price + Growth
Rate
Cost of Equity = $3.70 / $65.50 + 0.05
Cost of Equity = 10.649%
Estimated Cost of Equity = (11.276% + 10.649%) / 2
Estimated Cost of Equity = 10.9625%
Value of Firm = Value of Debt + Value of Preferred Stock + Value
of Equity
Value of Firm = $17,892,000 + $855,000 + $18,012,500
Value of Firm = $36,759,500
Weight of Debt = $17,892,000 / $36,759,500
Weight of Debt = 0.4867
Weight of Preferred Stock = $855,000 / $36,759,500
Weight of Preferred Stock = 0.0233
Weight of Equity = $18,012,500 / $36,759,500
Weight of Equity = 0.4900
WACC = Weight of Debt * After-tax Cost of Debt + Weight of
Preferred Stock * Cost of Preferred Stock + Weight of Equity *Cost
of Equity
WACC = 0.4867 * 4.854% + 0.0233 * 4.737% + 0.4900 * 10.9625%
WACC = 7.84%
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