Question

City Rentals has 44,000 shares of common stock outstanding at a market price of $32 a share. The common stock just paid a $1.50 annual dividend and has a dividend growth rate of 2.5 percent. There are 7,500 shares of $9 preferred stock outstanding at a market price of $72 a share. The outstanding bonds mature in 11 years, have a total face value of $825,000, a face value per bond of $1,000, and a market price of $989 each, and a pretax yield to maturity of 8.3 percent. The tax rate is 35 percent. What is the firm's weighted average cost of capital?

Answer 1

Answer:

the firm's weighted average cost of capital is 4.09 %.

Explanation:

Weighted Average Cost of Capital (WACC) is the weighted return required by providers of long term sources of capital

WACC = Ke (E/V) + Kd (D/V) + Kp(P/V)

Ke = Cost of Equity

     = $1.50 /  $32 × 0.025

     = 0.11 %

E/V = Market Value of Equity

      = 44,000 × $32

     = $1,408,000

Kp = Cost of Preference stock

     = $ 9 / $ 72

     = 12.5 %

P/V = Market Value of Preference Stock

      = 7,500 × $72

      = $540,000

Kd = Cost of Debt

     = 8.3 % × 65%

     = 5.40 %

D/V = Market Value of Debt

      = $825,000 / $1,000 × $989

      = $815,925

WACC = 0.11 % × ($1,408,000/$2,763,925) + 12.5 % × ($540,000/$2,763,925) + 5.40 % × ($815,925/$2,763,925)

           = 4.09 %