Question

Phillips equipment has 75,000 bonds outstanding that are selling at par. bonds with similar characteristics are yielding 7.5 percent. the company also has 750,000 shares of 6 percent preferred stock and 2.5 million shares of common stock outstanding. the preferred stock sells for $64a share. the common stock has a beta of 1.21 and sells for $44 a share. the u.s. treasury bill is yielding 2.3 percent and the return on the market is 11.2 percent. the corporate tax rate is 34 percent. what is the firm's weighted average cost of capital

Answer 1

Bonds = 75,000*1000 = 75 Million

Preferred stock = 750,000*64 = 48 Million

Common stock = 2.5 Million *44 =110 Million

Total capital = 75+48+110 = 233 Million

Weight of debt (Wd) = 75/233 = 0.3219

Weight of preferred stock (Wp)= 78/233 = 0.206

Weight of equity (We) 1-0.3219-0.206 = 0.4721

Cost of debt after tax (Rd)= 7.5%*(1-0.34) = 4.95%

Cost of preferred stock (Rp)=6/64 = 9.375%

Cost of equity(Re) = rf + beta*(rm-rf) = 2.3+1.21*(11.2-2.3) = 13.069%

WACC = Wd *Rd + Wp*Rp + We*Re

WACC = 0.3219*4.95 + 0.206*9.375 + 0.4721*13.069% = 9.69%