Crypton Electronics has a capital structure consisting of 35% common stock and 6

Question

Crypton Electronics has a capital structure consisting of 35% common stock and 65% debt. A debt issue of 1,000 par value, 6.5% bonds that mature in 15 years and pay a annual interest will sell for $973. Common stock of the firms is currently seilling for $30.97 per share and the fir, expects to pay $2.26 dividend next year. Dividends have grown at the rate of 5.2% per year and are expected to continue to do so for the foreseeable future. What is Crypton's cost of capital where the firm's tax rate is 30%.

Explanation / Answer

Pre-tax Cost of debt is the YTM (IRR) of the bond...
Cash Flows:
CF0: (980)
CF 1 thru 14: 1000*0.065 = 65
CF#15 = par + coupon = 1,065
IRR(YTM): 6.7156%, round to 6.72% After-tax cost of debt = pretax cost * ( 1 - tax rate) = 0.0672 * 0.70 = 0.047, or 4.7%

Cost of equity..."k(e)"
using Gordon growth model...solve for k
Price = D1/(k - g),
29.03 = 2.33/(k - 0.051)
0.080262 = (k - 0.051)
k = 0.131262, round to 13.13%

WACC = (weight debt * (rate debt * (1 - tax))) + (weight equity * rate equity)
WACC = 0.55(0.047) + 0.45(0.1313)
WACC = 0.02585 + 0.059085
WACC = 0.084935, or approx. 8.49%

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