Debt 5,000 bonds par $1,000 with a maturity 20 years; semi annual compounding. Coupon rate 8%. Price $1,310. Tax rate=33% Preferred 50,000 shares of 3% par value $100 stock. Current price $63.00. Common stock 72,000 shares currently selling for $87.00. The beta of the firm is 1.17, the risk free rate is 2.78%, Market return (Rm) =8.6%. What is the cost of Debt; Cost of Preferred Stock; Cost of Equity and what is the WACC?
a. | Cost of debt | 3.64% | ||||||
Working: | ||||||||
# 1 | Before tax cost of debt | = | =rate(nper,pmt,pv,fv)*2 | |||||
= | 5.44% | |||||||
Where, | ||||||||
nper | 40 | |||||||
pmt | $ 40 | |||||||
pv | $ -1,310 | |||||||
fv | $ 1,000 | |||||||
# 2 | After tax cost of debt | = | Before tax cost of debt*(1-Tax rate) | |||||
= | 5.44% | *(1-0.33) | ||||||
= | 3.64% | |||||||
b. | Cost of preferred stock | = | Preferred dividend | / | Current Price | |||
= | $ 3.00 | / | $ 63.00 | |||||
= | 4.76% | |||||||
c. | As per Capital Asset Pricing Model, | |||||||
Cost of Equity | = | Risk free rate | + | Beta | * | (Market return - Risk Free rate) | ||
= | 2.78% | + | 1.17 | * | (8.6%-2.78%) | |||
= | 9.59% | |||||||
d. | WACC | 6.20% | ||||||
Working; | ||||||||
# 1 | Market price of : | |||||||
Debt | 5,000 | * | $ 1,310 | = | $ 65,50,000 | |||
Preferred stock | 50,000 | * | $ 63 | = | $ 31,50,000 | |||
Equity | 72,000 | * | $ 87 | = | $ 62,64,000 | |||
Total | $ 1,59,64,000 | |||||||
So, weight of : | ||||||||
Debt | $ 65,50,000 | / | $ 1,59,64,000 | = | 0.4103 | |||
Preferred stock | $ 31,50,000 | / | $ 1,59,64,000 | = | 0.1973 | |||
Equity | $ 62,64,000 | / | $ 1,59,64,000 | = | 0.3924 | |||
# 2 | Weight | Cost | ||||||
a | b | a*b | ||||||
Debt | 0.4103 | 3.64% | 1.49% | |||||
Preferred stock | 0.1973 | 4.76% | 0.94% | |||||
Equity | 0.3924 | 9.59% | 3.76% | |||||
WACC | 6.20% | |||||||
Debt 5,000 bonds par $1,000 with a maturity 20 years; semi annual compounding. Coupon rate 8%....
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