Answer:
WACC is 8.19%
Explanation:
WACC (Weighted Average Cost of Capital is determined by multiplying capital source cost of both equity and debt by their relevant weight and then summing the results to identify the value using the formulae given below:
WACC = (E/V x Re) + [D/V x Rd x (1 - Tc)]
where:
E = Market Value of the firm's equity
D = Market Value of the firm's debt
V = E + D
Re = Cost of Equity
Rd = Cost of Debt
Tc = Tax Rate
In the given question, we will first determine the cost of equity. As shown below:
Cost of Equity = Average of CAPM and Dividend Capitalisation Model
CAPM = Risk free rate of return + Beta x (market rate of return - risk free rate of return)
CAPM = 3.75 + 0.93 x (11.7 - 3.75)
CAPM = 11.14%
Dividend Capitalisation Model = Expected dividend net year / Current Price + Growth Rate
Dividend Capitalisation Model = 3 / 64.8 * 100 + 5.3
Dividend Capitalisation Model = 9.93%
Cost of Equity = 9.93 + 11.14 = 10.54%
Next is the cost of debt which would be calculated using YTM (Yield to maturity)
where:
Par Value = 1047.5
Face Value = 1000
Coupon rate = 6.5
Years to maturity = 22 years
Coupon Payment Frequency is semi annually.
The Cost of debt = 6.1%
After Tax it would be 4.7% [6.1% * (1 - 23%)]
Next, we will determine the rate of preferred stock before calculating the WACC.
Rate of preferred stock = Annual dividend / Current Price * 100
Rate of preferred stock = 4.65 / 94.3 * 100
Rate of preferred stock = 4.93%
Finally, we will calculate the Market Value (MV) of equity, debt and preferred stock. As shown below:
MV Equity = 240,000 x 64.8 = 15,552,000
MV Debt = 1047.5 x 9300 = 9,741,750
MV preferred stock = 8,300 x 94.3 = 782,690
Total = 26,076,440
WACC = (15,552,000 / 26,076,440 * 10.54%) + (9,741,750 / 26,076,440 * 4.7%) + (782,690 / 26,076,440 * 4.93%)
WACC = 6.28% + 1.76% + 0.15%
WACC = 8.19%
