Dinklage Corp. has 10 million shares of common stock outstanding. The current sh

Question

Dinklage Corp. has 10 million shares of common stock outstanding. The current share price is $82, and the book value per share is $5. The company also has two bond issues outstanding. The first bond issue has a face value of $85 million, a coupon rate of 5 percent, and sells for 97 percent of par. The second issue has a face value of $55 million, a coupon rate of 6 percent, and sells for 105 percent of par. The first issue matures in 20 years, the second in 9 years. Suppose the most recent dividend was $5.40 and the dividend growth rate is 6 percent. Assume that the overall cost of debt is the weighted average of that implied by the two outstanding debt issues. Both bonds make semiannual payments. The tax rate is 38 percent. What is the company’s WACC? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Explanation / Answer

To calculate Cost of Equity, Ke, we use the formula, Current price = Dividend at Year 1 / Cost of Equity - growth rate

82 = 5.40 (1+.06) / Re - .06

Re = 5.724 / 82 + .06 = .1298 = 12.98%

WACC = Ke * Weight of equity + Kd (1-t) * weight of debt

Weights shall be calculated on the basis of market value of each component.

Market Value of Equity = 1000000 * 82 = $82000000 = $82 million

Market Value of Debt 1 = 85000000 * 97% = $82450000 = $82.45 million

Market Value od Debt 2 = 55000000 * 105% = $57750000 = $57.75 million

Total Market Value = $222200000 = $222.20 million

WACC = (12.98% * 82/222.20) + (5%*(1-.38) * 82.45/222.20) + (6%*(1-.38) * 57.75/222.20)

WACC = 4.79% + 1.15% + .97% = 6.91%

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