Common stock seeling price =book value and firms bond at par required rate of re
ID: 2766790 • Letter: C
Question
Common stock seeling price =book value and firms bond at par
required rate of return = 18% on common firms bonds and command a yield to maturity of 7%
36% tax rate
1. What is firms weighted average cost of capital?
2. If the firms stock price rises so that it sells 1.5 times book value, causing the cost of equity to fall to 16% what woudl the firms cost of capital be assuming the cost of debt and tac rate do nto change?
Balance Sheet Data:
Cash 420,000 A/R 5,150,000 Inventory 8,200,000 Net Property, plant equipment $18,519,000 Total Assets 32,289,000
Long Term debt 12,470,000 Common Equity 19,819,000 Total Debt and Equity 32,289,000
Explanation / Answer
1.Equity = 19,819,000
debt = 12,470,000
Total assets = 19,819,000 + 12,470,000 = 32,289,000
Weight of equity =We = 19,819/32,289 = 0.6138
Weight of debt = Wd = 1-0.6138 = 0.3862
Cost of equity=Re = 18%
After tax cost of debr = Rd = 7*(1-0.36) = 4.48%
WACC = 0.6138*18 + 0.3862*4.48 =12.78%
2. New Equity = 19,819,000*1.5 = 29,728,500
debt = 12,470,000
Total assets = 29,728,500 + 12,470,000 = 42,198,500
Weight of equity =We = 29,728,500/42,198,500 = 0.7045
Weight of debt = Wd = 1-0.7045 = 0.2955
Cost of equity=Re = 16%
After tax cost of debr = Rd = 7*(1-0.36) = 4.48%
WACC = 0.7045*16 + 0.2955*4.48 =12.60%
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