Question

QUESTION 33 Western Electric has 20,500 shares of common stock outstanding at a price per share of $74 and a rate of return of 13.25 percent. The firm has 7050 shares of 7.30 percent preferred stock outstanding at a price of $92.50 per share. The preferred stock has a par value of $100. The outstanding debt has a total face value of $389,000 and currently sells for 108.5 percent of face. The yield to maturity on the debt is 7.93 percent. What is the firm's weighted average cost of capital if the tax rate is 39 percent? 11.09% 10.28% 11.49% 10.70%

Answer 1

SOLUTION :

EQUITY :

Market value of equity = E = No. of shares * MV per share = 29500 * 74 = 2183000 ($)

Return on equity = rE = 7.30 %

PREFERRED STOCK :

Market value of Preferred stock = PS = No. Of shares * MV = 7050 * 92.50 = 652125 ($)

Return on PS = rP = 7.3 / 92.5 = 0.0789 = 7.89% 

DEBT :

Market value of debt = D = FV * price per $ of FV = 389000 * 108.5/100 = 422065 

Effective interest on debt = rD =  YTM * (1 - T) = 7.93 * (1 - 0.39) = 4.84 % 

TOTAL CAPITA MV BASED :

Total capital as per MV = C = E + PS + D = 2183000 + 652125 + 422065 = 3257190 ($)

WEIGHTS OF CAPITAL COMPONENTS :

Weight of equity = wE = E / C = 2183000 / 3257190 = 0.67

Weight of PS = wPS = PS / C = 652125 / 3257190 = 0.20 

Weight of debt = wD = D / C = 422065 / 3257190 = 0.13 

WEIGHED AVERAGE CAPITAL COST ;

WACC 

= wE * rE + wPS * rPS + wD * rD 

= 0.67 * 7.30 + 0.20 * 7.89 + 0.13 * 4.84

= 7.10 % approx. (ANSWER).

Answer 2

SOLUTION : 

CORREC ANSWER :

EQUITY :

Market value of equity = E = No. of shares * MV per share = 29500 * 74 = 2183000 ($)

Return on equity = rE = 13.25 %

PREFERRED STOCK :

Market value of Preferred stock = PS = No. Of shares * MV = 7050 * 92.50 = 652125 ($)

Return on PS = rP = 7.3 / 92.5 = 0.0789 = 7.89% 

DEBT :

Market value of debt = D = FV * price per $ of FV = 389000 * 108.5/100 = 422065 

Effective interest on debt = rD =  YTM * (1 - T) = 7.93 * (1 - 0.39) = 4.84 % 

TOTAL CAPITA MV BASED :

Total capital as per MV = C = E + PS + D = 2183000 + 652125 + 422065 = 3257190 ($)

WEIGHTS OF CAPITAL COMPONENTS :

Weight of equity = wE = E / C = 2183000 / 3257190 = 0.67

Weight of PS = wPS = PS / C = 652125 / 3257190 = 0.20 

Weight of debt = wD = D / C = 422065 / 3257190 = 0.13 

WEIGHED AVERAGE CAPITAL COST ;

WACC 

= wE * rE + wPS * rPS + wD * rD 

= 0.67 * 13.25 + 0.20 * 7.89 + 0.13 * 4.84

= 11.09 % approx.: First Option  (ANSWER).

Answer 3

After tax cost of Debt Before tax cost of debt*(1-Tax rate) 0.0793*(1-0.39) 0.048373 4.84% Cost of Preferred Stock Annual Dividend/Price (100*7.3%)/92.5 0.078918919 7.89% product Debt Preferred Equity 389000*108.5% 7050*92.5 29500*74 Market value $ $ $ (Market value/Total market value) weight cost 4,22,065 0.1296 6,52,125 0.2002 21,83,000 0.6702 32,57,190 1.0000 4.84% 7.89% 13.25% 0.0063 0.0158 0.0888 0.1109 Wacc 11.09%