Directions: You MUST show ALL of your work to receive credit on the problems. Th

Question

Directions: You MUST show ALL of your work to receive credit on the problems. There will be significant point reductions if you do not show your work. All calculations should be completed to at least 2 decimal places.

Here is some information about Stokenchurch Inc.:

Beta of common stock = 1.2

Treasury bill rate = 4%

Market risk premium = 7.5%

Yield to maturity on long- term debt = 6%

Book value of equity = $ 440 million

Market value of equity = $ 880 million

Long- term debt outstanding = $ 880 million

Corporate tax rate = 35%

What is the company’s WACC?

Explanation / Answer

After-Tax Cost of Debt Capital = The Yield-to-Maturity on long-term debt x (1 minus the marginal tax

rate

=6%x(100%-35%)

=4%

Cost of Equity Capital = Risk-Free Rate + (Beta times Market Risk Premium).

4%+(1.2x7.5%)

.04+(.09)

=13%

WACC=4%x50%+13%x50%

=0.02+0.07

=9%

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