Chiquitica Company currently does not use any debt at all (it is an all-equity f

Question

Chiquitica Company currently does not use any debt at all (it is an all-equity firm). The firm has three million shares selling for $22 per share. share. Its beta is 1.3, and the current risk-free rate is 3.9%. The expected return on the market for the coming year is 9.8%. Chiquitica Company will sell $22,000,000 in corporate bonds with a $1,000 par value and use the proceeds to retire stock. The bonds have a yield to maturity of 12%. When the bonds are sold, the beta of the company will increase to 1.6. What was the WACC of Chiquitica Company before the bond sale? What is the adjusted WACC of Chiquitica Company after the bond sale if the corporate tax rate is 30%?

Please provide steps and formulas. Also, please notice the proceeds to retire the stock. Chiquitica Company currently does not use any debt at all (it is an all-equity firm). The firm has three million shares selling for $22 per share. share. Its beta is 1.3, and the current risk-free rate is 3.9%. The expected return on the market for the coming year is 9.8%. Chiquitica Company will sell $22,000,000 in corporate bonds with a $1,000 par value and use the proceeds to retire stock. The bonds have a yield to maturity of 12%. When the bonds are sold, the beta of the company will increase to 1.6. What was the WACC of Chiquitica Company before the bond sale? What is the adjusted WACC of Chiquitica Company after the bond sale if the corporate tax rate is 30%?

Please provide steps and formulas. Also, please notice the proceeds to retire the stock.

Explanation / Answer

WACC before the bond sale = Cost of Equity as it is an all equity firm

Cost of Equity for the firm = Rf + Beta * Market Risk Premium= 3.9% + 1.3* (9.8%-3.9%) = 11.57%

WACC= 11.57% ( for the all equity firm)

Case 2

Total Value of bonds = $ 22 M

Using these bonds stocks are retired, So Number of stocks retired at prevailing market price= 22 M/22 = 1 M shares

Total Outstanding shares = 3-1 = 2 M

Total Market value of common stock after retiring the stock = 22* 2 M = $44 M

Value of debt =22 M

Total firm value = 44+22= 66 M

Now, Debt to Value(Wd) = 22/66 = 1/3, Cost of debt (kd) = 12%

Equity to value(We) = 44/66=2/3, Cost of Equity(ke) = 3.9%+ 1.6*(9.8- 3.9) = 13.34%

Now Adjusted WACC = Kd* Wd*(1-t) + Ke* We = 12% * 1/3*0.7 + 13.34%* 2/3 = 11.69 %

Related Questions

Navigate

• Browse (All)
• Browse C
• Subjects

---

---

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