Question

Western Electric has 26,000 shares of common stock outstanding at a price per share of $67 and a rate of return of 13.60 percent. The firm has 6,700 shares of 6.60 percent preferred stock outstanding at a price of $89.00 per share. The preferred stock has a par value of $100. The outstanding debt has a total face value of $368,000 and currently sells for 105 percent of face. The yield to maturity on the debt is 7.72 percent. What is the firm's weighted average cost of capital if the tax rate is 35 percent?

Answer 1

Weighted average cost of capital= 11.03%

Step-by-step explanation:

The weighted average cost of capital (WACC) is the average cost of all the various sources of long-term finance used by a business weighted according to the proportion which each source of finance bears to the the entire pool of fund.

To calculate the weighted average cost of capital, follow the steps below:

Step 1: Calculate cost of individual source of finance:

Cost of Equity= 13.6%

After-tax cost of debt:

= (1- T) × before-tax cost of debt

= 7.72%× (1-0.35)= 5.018 %

Cost of preferred stock costs

= Div/Price × 100 = (6.60%× 100)/89× 100 =7.42%

Step 2 : Market value of all the sources of funds

Equity = $67×26,000 =1,742,000

Preferred stock = 89.00 × 6,700 = $596,300

Debt- 105/100 × 368,000 = $386,400

Step 3; Work out weighted average cost of capital (WACC)

Source Cost Market value Cost × Market value a b c b× c

Equity 13.6% $1,742,000 236,912

Preferred stock 7.42% $596,300 = 44,245.46

Debt 5.018 % 386400 = 19,389.55

Total 2,724,700 300,547.01

WACC = (300,547.01/ 2,724,700) × 100 = 11.03%

Weighted average cost of capital= 11.03%