Answer:
Consider the following calculation
Explanation:
a.) What is the best estimate of the after tax cost of debt ?
Coupon rate 7.25%.
Periods/year 2.
SO PMT = 7.25%*1000/2 = 36.25 Maturity (yr) 20. SO nper = 20*2 =40 Bond price 875 Par value 1000 Tax rate 40% So Annual Yield =2*Rate(nper, pmt,pv,fv) = 2*Rate(40,36.25,-875,1000) = 8.57% SO After-tax cost of debt for use in WACC = rd(1 ? T) = 5.14% ...
Ans (a) (b) based on the CAPM, what is the firms cost of equity? We have P0=15.25, beta=1.25, Krf = Treasuy bill = 5.50%, Ks =11.5% RPm = Exp Mkt return = Krf = Ks-Krf = 11.5%-5.5% = 6% SO CAPM COst of Equity rs = Krf + RPm*Beta ie rs= 5.5% + 6%*1.25 = 13.00%
(c) Weighted WACC Bond Price = 875, No of Bonds = 40,000 So MV of Debt = D = 875*40000 = $35,000,000 Stock price = 15.25, No of shares = 10,000,000 So MV of Equity = E= 152,500,000 Total MV = D+E = 187500,000 SO Weighted Debt = Wd = D/Total MV = 35,000,000/187,500,000 = 18.67% Weighted equity We = E/Total MV = 152500000/187500000 = 81.33% SO WACC = Wd*(1-T)*rd + We*rs = 18.67%*(1-40%)*8.57% + 81.33%*13% ie WACC = 11.53%\)
