You have just estimated ? for XYZ Corp. using the Capital Asset Pricing Model. Y
ID: 2725272 • Letter: Y
Question
You have just estimated ? for XYZ Corp. using the Capital Asset Pricing Model. Your regression results follow. In addition, you also have performed research on the 10-K to get the balance sheet information below. Your goal is to estimate the relevant costs of capital for XYZ Corp. Assume that last year’s market return was 12% and the 10-year Treasury had a yield of 3.69%. Also, you found the market risk premium over the last 3-years to be 8% and that interest rates are not expected to change in the next 4 years. The Market Cap is $1,300 million and the tax rate is 30%. Regression output for XYZ may be found on Page 11 of the exam booklet.
28. Based on your analysis, compute the appropriate estimate of the cost of equity.
29. Compute the Before-Tax weighted average cost of debt
30. Compute the After-Tax Weighted average cost of capital.
31. Compute the upper and lower bounds on the cost of equity (95% confidence level). Use the information from problems 28-30 and the regression output on the next page.
Explanation / Answer
Solution 1:
The cost of equity can be computed using the CAPm model
Re= Ke = Rf + beta (RM- Rf)
Where Rm = market return
Rf = risk free return
Beta = risk associated to the stock
Hence COst of equity is = .0369 + 1.6(.08)
Ke = 16.49%
Solution 2:
Before tax weighted average Cost of debt calculation :
total debt = 900
hence = .08*600/900 + .06*200/900 + .09*100/900
= .0533333 + .01333333 + .01
= 7.67% is the pretax cost of debt
Solution 3:
WACC = cost of equity * weight + cost of debt * weight
Equity market value = 1300
Debt = 900
total = 2200 hence equity weight = 1300/2200 = .59090
Debt = 1-.59090 = .40909
WACC = .5909*.1649 + .40909*.0767
= .09743+.031377
=12.88%
Thank you.
Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.