Question

Suppose a firm has 35 million shares of common stock outstanding at a price of $15 per share. The firm also has 200,000 bonds outstanding with a current price of $905.4. The outstanding bonds have yield to maturity 9.4%. The firm's common stock beta is 1.5 and the corporate tax rate is 39%. The expected market return is 14% and the T-bill rate is 3%. What is the WACC for this firm

Answer 1

16%

Step-by-step explanation:

The computation of the WACC is given below:

But before that following calculation should be done

Cost of equity

= Risk free rate of return + beta × (market return - risk free rate)

= 3% + 1.5 × (14% - 3%)

= 19.5%

Market value of equity = 35 million shares ×$15 = $525 million

And, the market value of debt = 200,000 × $905.4 = $181.08 million

Now the WACC is

= cost of equity × weight of equity + cost of debt × (1 - tax rate) × weight of debt

= 19.5% × ($525 ÷ 525 + 181.08) + 9.4% × (1 - 0.39) × ($181.08 ÷ 525 + 181.08)

= 19.5% ×0.744 + 5.734% × 0.256

= 15.975%

= 16%