You are given the following information for Watson Power Co. Assume the company’

Question

You are given the following information for Watson Power Co. Assume the company’s tax rate is 30 percent. Debt: 9,000 6.4 percent coupon bonds outstanding, $1,000 par value, 20 years to maturity, selling for 107 percent of par; the bonds make semiannual payments. Common stock: 360,000 shares outstanding, selling for $54 per share; the beta is 1.10. Preferred stock: 14,000 shares of 4 percent preferred stock outstanding, currently selling for $74 per share. Market: 11 percent market risk premium and 4.4 percent risk-free rate. What is the company's WACC?

Explanation / Answer

Cost of debt (Pre tax) is the yield that is calculate as per excel as = rate(nper,pmt,pv,fv). nper = 20' pmt =6.4% of 1000 = 64, PV = 1070, fv =1000. Hence yield is =rate(20,64,-1070,1000) = 5.80%

The tax rate is 30%.

Hence Cost of debt= Rd = 5,80*(1-0.3) = 4.06% = 0.0406

Cost of Equity is given as per CAPM

Re = Rf + Beta * Market risk priemium.

Rf = 4.4%, Beta = 1.10 and Market risk premium = 11%

Re = 4.4 +1.10*11 = 16.5%= 0.165

Cost of prefered Shres is Divideded/ Current price

Rp = 4/74 = 0.0541 =5.41%

Total debt = 9000*1070 = 9,630,000

Total equity = 360,000*54 = 19,440,000

Total preferred capital = 14000*74 = 1,036,000

Total = $30,106,000

Weight of debt = Wd = 9,630,000/30,106,000 = 0.3199

Weight of equity = We = 19,440,000/30,106,000 = 0.6457

Weight of preferred Capital = Wp = 1-Wd-We = 0.0344

Hence WACC is given by Rd*Wd + Re*We + Rp*Wp

WACC = 0.0406*0.3199 + 0.165* 0.6457 + 0.0541* 0.0344

WACC = 0.1214 = 12.14%

Related Questions

Navigate

• Browse (All)
• Browse Y
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.