Question

Daves Inc. recently hired you as a consultant to estimate the company’s Weighted Average Cost of Capital. You have obtained the following information: 1. There is no preferred equity in the company’s capital structure. 2. The company’s debt is financed through issuing corporate bond and now the yield to maturity of this bond is 8%. 3. The company’s common stock has an estimated return of 10%. 4. The tax rate is 40%. 5. The bond price is $900 per unit and there are 1 million units of bond issued. 6. The common stock is priced at $10 per share and there are 10 million stock shares outstanding. What is the firm’s WACC based on market value?

Answer 1

Answer:

WACC = 5.32%

Explanation:

bond's YTM = 8%

cost of equity = 10%

tax rate = 40%

total bonds = $900,000,000

total common stocks = $100,000,000

total firm's value = $1,000,000,000

to simplify the process I will use hundreds of millions

WACC = (1/10 x 10%) + [9/10 x 8% x (1 - 40%)] = 1% + 4.32% = 5.32%