Question

Quantitative Problem: Currently, Meyers Manufacturing Enterprises (MME) has a capital structure consisting of 35% debt and 65% equity. MME's debt currently has a 6.9% yield to maturity. The risk-free rate (rp) is 4.9%, and the market risk premium ( - ) is 5.9%. Using the CAPM, MME estimates that its cost of equity is currently 10.9%. The company has a 40% tax rate. a. What is MME's current WACC? Do not round intermediate calculations. Round your answer to two decimal places. b. What is the current beta on MME's common stock? Do not round intermediate calculations. Round your answer to four decimal places c. What would MME's beta be if the company had no debt in its capital structure? (That is, what is MME's unlevered beta, bu?) Do not round intermediate calculations. Round your answer to four decimal places MME's financial staff is considering changing its capital structure to 45% debt and 55% equity. If the company went ahead with the proposed change, the yield to maturity on the company's bonds would rise to 7.4%. The proposed change will have no effect on the company's tax rate. d. What would be the company's new cost of equity if it adopted the proposed change in capital structure? Do not round intermediate calculations. Round your answer to two decimal places. e. What would be the company's new WACC if it adopted the proposed change in capital structure? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 1

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1 21 e Dites VIA 3 10:12 ENG 1101 2020 22 EL700 x v for WACC = EL EJEKEL EH EM EN EO FP EQ ER ES E 661 MEYER MME kd = 6.90% 10.90% ke = 667 668 669 WACC = 670 We*ke + Wd*kd(1-t) (65%)*(10.9%)+(35%)*(6.9%)*(1-0.4) 8.53% 671 WACC = 672 673 674 RISK PREMIUM risk free rate 5.90% 4.90% 675 676 678 677 679 680 Ke = Rf + beta (Rm-Rf) 10.90% = 4.9% + beta*(5.9%) 6% = beta(5.9%) beta- 1.0169 unlevered beta = levered beta /(1+(D/E)(1-t)) unlevered beta = 1.0169/(1+(35/65)(1-0.4)) unlevered beta = 0.7686 681 682 683 684 685 686 687 688 689 releveraging beta levered beta = unlevered beta *(1 + (D/E)(1-t)) levered beta = 0.7686*(1 + (45/55)(1-0.4)) levered beta = 1.1459 IRR prbela RATIO PI POP ARR invest, EAA MI-mp-in REPLACEMENTS HPR GMAM EAC MACRS NPV RELEVANT BETA LEVERED REPLACEMENT BOND OPTION TO WAIT STE... : D

u 21e VIA 3 10:12 ENG 1101 2020 22 X EM684 EH EI EI EK EL EM EN EO FP EQ ER ES E 684 685 686 687 releveraging beta levered beta = unlevered beta *(1 + (D/E)(1-t)) levered beta = 0.7686*(1 + (45/55)(1-0.4)) levered beta = 1.1459 688 689 690 691 692 beta 1.1459 RISK PREMIUM 5.90% risk free rate 4.90% COST OF EQUITY = ke = Rf + beta (Rm-Rf) ke = 4.9% + 1.1459*(5.9%)= 693 11.66% 694 695 696 697 698 kd = 7.40% WACC = 699 We*ke + Wd*kd(1-t) (55%)*11.66%+(45%)*17.4%)*(1-0.4) 8.41% WACC = THE FIRM SHOULD PROCEED WITH REAPITALIZATION YES: As WACC has decreased 709 710 711 IRRripabela RATIO PI POP ARR invest, EAA MI-mp-it REPLACEMENT S HPR GMAM EAC MACRS NPV RELEVANT BETA LEVERED REPLACEMENT BOND OPTION TO WAIT STE... 6 T