As the Finance Manager of Wynter's Bedding Manafacturing (WBM), you need to detemine the discount rate to be used to evaluate the acquisition of new manufacturing equipment. You have determined that the market value of the company's capital structure is Bonds - $4 million, Preference Shares - $2 million and Ordinary Shares - $6 million. The acquisition is to be financed by a mix of soarces: • A 30 year bond with a coupon rate of 7.75% payable annually. The pre tax cost of this bond issue is estimated to be 7.94%, net of a 1.25% flotation cost. • Preference share can be sold for $22.50 per share, however, the issue will attract a flotation cost of $2.00 per share. Each share will pay holders an annual dividend of $2.70. • The current risk free rate of retum is 6.5% and the expected rate of return for the market as a whole is 17%. The company's Investment Analysts indicates that the stock's beta coefficient is 1.5. The annual tax rate is 3%. A. Based on the information above, compute the follwing: . Aftertai cest of debt i. Cost of Preference Share i. Cost of isuing new commen stock, using the CAPM iv. Weighted Average Cost of Capital (WACC) B. Ir WBM's capital structure was modified, whereby Bonds, Preference Shares and Ordinary Shares where reflected on the company's Balance Sheet in the ratio of 2:3:5 respectively. Compute the new WACC. C. WBM's common stock was last traded for S54.40. The company paid a dividend of S0.14 per stock last year and the market expects the stock to grow by 3% per year into the foreseeable future. New stock issued will attract a flotation cost of $2.00 per share. Assume the capital structure is Bonds - 20%, Preference Shares - 25% and Ordinary Shares – 55%. Using the dividend growth model, what is the new WACC ?
As the Finance Manager of Wynter's Bedding Manafacturing (WBM), you need to detemine the discount rate to be used to evaluate the acquisition of new manufacturing equipment. You have determined that the market value of the company's capital structure is Bonds - $4 million, Preference Shares - $2 million and Ordinary Shares - $6 million. The acquisition is to be financed by a mix of soarces: • A 30 year bond with a coupon rate of 7.75% payable annually. The pre tax cost of this bond issue is estimated to be 7.94%, net of a 1.25% flotation cost. • Preference share can be sold for $22.50 per share, however, the issue will attract a flotation cost of $2.00 per share. Each share will pay holders an annual dividend of $2.70. • The current risk free rate of retum is 6.5% and the expected rate of return for the market as a whole is 17%. The company's Investment Analysts indicates that the stock's beta coefficient is 1.5. The annual tax rate is 3%. A. Based on the information above, compute the follwing: . Aftertai cest of debt i. Cost of Preference Share i. Cost of isuing new commen stock, using the CAPM iv. Weighted Average Cost of Capital (WACC) B. Ir WBM's capital structure was modified, whereby Bonds, Preference Shares and Ordinary Shares where reflected on the company's Balance Sheet in the ratio of 2:3:5 respectively. Compute the new WACC. C. WBM's common stock was last traded for S54.40. The company paid a dividend of S0.14 per stock last year and the market expects the stock to grow by 3% per year into the foreseeable future. New stock issued will attract a flotation cost of $2.00 per share. Assume the capital structure is Bonds - 20%, Preference Shares - 25% and Ordinary Shares – 55%. Using the dividend growth model, what is the new WACC ?
Chapter12: The Cost Of Capital
Section: Chapter Questions
Problem 17P
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Concept explainers
Cost of Capital
Shareholders and investors who invest into the capital of the firm desire to have a suitable return on their investment funding. The cost of capital reflects what shareholders expect. It is a discount rate for converting expected cash flow into present cash flow.
Capital Structure
Capital structure is the combination of debt and equity employed by an organization in order to take care of its operations. It is an important concept in corporate finance and is expressed in the form of a debt-equity ratio.
Weighted Average Cost of Capital
The Weighted Average Cost of Capital is a tool used for calculating the cost of capital for a firm wherein proportional weightage is assigned to each category of capital. It can also be defined as the average amount that a firm needs to pay its stakeholders and for its security to finance the assets. The most commonly used sources of capital include common stocks, bonds, long-term debts, etc. The increase in weighted average cost of capital is an indicator of a decrease in the valuation of a firm and an increase in its risk.
Question
Transcribed Image Text:As the Finance Manager of Wynter's Bedding Manufacturing (WBM), you need to detemine the
discount rate to be used to evaluate the acquisition of new manufacturing equipment. You have
determined that the market value of the company's capital structure is Bonds
Preference Shares - $2 million and Ordinary Shares - $6 million.
$4 million,
The acquisition is to be financed by a mix of sources:
A 30 year bond with a coupon rate of 7.75% payable annually. The pre-tax cost of
this bond issue is estimated to be 7.94%, net of a 1.25% flotation cost.
Preference share can be sold for $22.50 per share, however, the issue will attract a
flotation cost of $2.00 per share. Each share will pay holders an annual dividend of
$2.70.
The current risk free rate of retum is 6.5% and the expected rate of return for the
market as a whole is 17%. The company's Investment Analysts indicates that the
stock's beta coefficient is 1.5.
The annual tax rale is 33,%.
A. Based on the information above, compute the following:
i. After-tax cest of debt
i. Cust of Prelerence Share
iii. Cost of issuing new common stock, using the CAPM
iv. Weighted Average Cost of Capital (WACC)
B. If WBM's capital structure was modified, whereby Bonds, Preference Shares and Ordinary
Shares where reflected on the company's Balance Sheet in the ratio of 2:3:5 respectively.
Compute the new WACC.
C. WBM's common stock was last traded for S54.40. The company paid a dividend of S0.14 per
stock last year and the market expects the stock to grow by 5% per year into the
foreseeable future. New stock issued will attract a flotation cost of S2.00 per share.
Assume the capital structure is Bonds - 20%, Preference Shares - 25% and Ordinary
Shares – 55%. Using the dividend growth model, what is the new WACC ?
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