WACC Estimation On January 1, the total market value of the Tysseland Company wa
ID: 2620796 • Letter: W
Question
WACC Estimation On January 1, the total market value of the Tysseland Company was $60 million. During the year, the company plans to raise and invest $20 million in new projects. The firm's present market value capital structure, here below, is considered to be optimal. There is no short-term debt. Debt Common equity Total capital New bonds will have an 9% coupon rate, and they will be sold at par. Common stock is currently selling at $30 a share. The stockholders' required rate of return is estimated to be 12%, consisting of a dividend yield of 4% and an expected constant growth rate of 8%. (The next expected dividend is $1.20, so the dividend yield is $1.20/$30 = 4%.) The marginal tax rate is 40%. a. In order to maintain the present capital structure, how much of the new investment must be financed by common equity? Enter your answer in dollars. For example, $1.2 million should be entered as $30,000,000 30,000,000 $60,000,000 $1200000 b.Assuming there is sufficient cash flow for Tysseland to maintain its target capital structure without issuing additional shares of equity, what is its WACC? Round your answer to two decimal places c. Suppose now that there is not enough internal cash flow and the firm must issue new shares of stock. Qualitatively speaking, what will happen to the WACC? No numbers are required to answer this question. I. rs will decrease and the WACC will increase due to the flotation costs of new equity II. rs and the WACC will not be affected by flotation costs of new equity III. rs and the WACC will increase due to the flotation costs of new equity IV. rs and the WACC will decrease due to the flotation costs of new equity V.rs will increase and the WACC will decrease due to the flotation costs of new equity. SelectExplanation / Answer
Tysseland Company a.) In order to maintain the present capital structure, how much of the new investment must be financed by common equity? Weight of Equity = Equity/Total Capital Equity = $30,000,000 Total Capital = 60,000,000 Weight of Equity = 50.00% Investment to be financed by CE = $10,000,000 b.) Assuming there is sufficient cash flow for Tysseland to maintain its target capital structure without issuing additional shares of equity, what is its WACC? WACC = (Weight of Equity x Cost of Equity) + (Weight of Debt x After Tax Cost of Debt) D1 = 1.20 Po = $30 g = 8% Cost of equity = 12% Weight of debt = 50% After Tax Cost of Debt = 5.4% WACC = 12% X 0.5 + 5.4% X 0.5 = 8.70% c.) Suppose now that there is not enough internal cash flow and the firm must issue new shares of stock. Qualitatively speaking, what will happen to the WACC? As long as the capital structure stays the same with the debt and equity being equal, then the WACC will remain the same. If either of the debt or equity amounts change, then the WACC would change respectively.
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