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CALCULATING 3M’s COST OF CAPITAL
In this chapter, we described how to estimate a company’s WACC, which is the weighted average of its costs of debt,
1. As a first step, we need to estimate what percentage of MMM’s capital comes from debt, preferred stock, and common equity. This information can be found on the firm’s latest annual balance sheet. (As of year end 2013, MMM had no preferred stock.) Total debt includes all interest-bearing debt and is the sum of short-term debt and long-term debt.
- a. Recall that the weights used in the WACC are based on the company’s target capital structure. If we assume that the company wants to maintain the same mix of capital that it currently has on its balance sheet, what weights should you use to estimate the WACC for MMM?
- b. Find MMM’s market capitalization, which is the market value of its common equity. Using the sum of its short-term debt and long-term debt from the balance sheet (we assume that the market value of its debt equals its book value) and its market capitalization, recalculate the firm’s debt and common equity weights to be used in the WACC equation. These weights are approximations of market-value weights. Be sure not to include accruals in the debt calculation.
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- Cost of Capital (WACC) WACC = (E/V) × RE+ (D/V) × RD × (1 - Tc) (20 points) 2. You will be working as an analyst for Berkshire Hathaway. To prepare for their interview, you were told they use different ways to calculate the cost of capital of the companies they buy. One of them is the Weighted Cost of Capital or WACC. The BH team provided the following data and asked you to calculate the WACC of a target company they are evaluating for acquisition. (in millions) Value of Equity $275 Yield of Debt 7.53% Value of Debt $897 Tax rate 13.51% Return equity 15.21% a. What is the company's total value using the value of debt and equity? Provide the result as $000 (mn). b. What is the weighted average cost of capital? Provide the result as x.xx%.arrow_forwardA company hired you as a consultant to help estimate its cost of capital. You have obtained the following data: D0 = $2.45; P0 = $28.96; and g = 4.06% (constant). What is the cost of equity from retained earnings? Do not round your intermediate calculations. Express your answer as a percent rounded to two decimal places. (For example, 4.567% should be entered as 4.57)arrow_forwardWACC-Book weights and market weights Webster Company has compiled the information shown in the following table: a. Calculate the weighted average cost of capital using book value weights. b. Calculate the weighted average cost of capital using market value weights. c. Compare the answers obtained in parts a and b. Explain the differences. a. The firm's weighted average cost of capital using book value weights is %. (Round to two decimal places.) i Data Table (Click on the icon located on the top-right corner of copy its contents into a spreadsheet.) data table bel order to Source of capital Book value Market value After-tax cost Long-term debt $4,000,000 $3,840,000 8% Preferred stock 40,000 65,000 13% Common stock equity 1,060,000 4,484,000 15% Totals $5,100,000 $8,389,000 Print Donearrow_forward
- shortly explain all the capital structure theories and compare them with your own words (no copy paste from somewhere. Use your own book as reference.) Then randomly choose three companies enlisted in Borsa İstanbul and analyze their balance sheet. Write your comments about their capital structure and analyze with regard to risk and profitability. FINANCIAL MANAGEMENT II COURSE QUESTİONarrow_forwardwhat comment can be made on this or what can be added to it? The weighted average cost of capital is a calculation that can be done by a business to determine how much it will cost to borrow money to generate capital (WACC, n.d.). The result of this calculation will help business determine if financing a project is an investment that will yield positive returns (WACC, n.d.). The WACC takes into account the cost of equity and the cost of debt to figure out whether an investment is worth taking on (WACC, n.d.).arrow_forwardPlease answer all. From a company we get the following:Capital employed 20,000,000 dollarDebt / equity ratio = 3Total income 40,000,000 dollarTotal profit 4,000,000 dollarInterest costs 1,500,000 dollarNet profit 2,500,000 dollara. Calculate the return on capital employed (Rsyss)b. Calculate the return on equity (Re)c. Show the relationship between profit margin and capital turnover rate and return on capital employedd. Demonstrate the relationship between the return on equity (Re) and the return on employed capital (Rsyss) with the help of the financial exchange!arrow_forward
- What is the weighted average cost of capital (WACC)? The cost of all of the capital for a project or company The cost of all of the equity for a project or company The cost of all of the debt for a project or company The cost of all of the venture capital for a project or companyarrow_forwardWhat is WACC (select all that are true)? Group of answer choices Rd (1-Tc) * D/V + Re * E/V Weighted Average Cost of Capital For a firm overall, it is based on the riskiness of the firm's assets While it is generally estimated by looking at the right-hand-side of the balance sheet, it is largely driven by the left-hand-side (i.e., assets) It is the amount that equity holders demand for an investment in a firm It is the amount that debt holders demand for a loan made to the firmarrow_forwardWu Systems has the following balance sheet. Assume that all current assets are used in operations. How much net operating working capital does the firm have?arrow_forward
- What comment can be made on this or what can be added? The Weighted Average Cost of Capital (WACC) is a financial analytical tool that is essentially a calculation utilizing a company's market value of equity, debt, and tax rate. This allows both the company and investors an estimated net value of the company and can give indications of the value of the company moving forward. The WACC is especially important for a company to understand because the WACC is a good indication of the success or failure of a company's current investment strategy and if favorable, can assist a company when it comes to purchases of sales or other acquisitionsarrow_forwardCalculate the Weighted Average Cost of Capital (WACC) for McCormick and Company using the formula WACC = (WD x RD x (1-T)) + (WS x Rs) Note that -- Rs = the cost of equity Rd = the cost of debt T = the tax rate WD = Value of debt / (Value of debt plus value of equity) WS = Value of equity / (Value of debt plus value of equity) **Note that the weight of debt plus the weight of equity must total to 100%, as there are only two components in the capital structure.** In order to estimate the weights of debt and equity in the total capital structure, the CFO suggests using the book value of debt and the market value of equity. To determine the book value of debt, use data from the year end November 2019 McCormick 10-K. Look on the Balance sheet and add the following -- Short term borrowings, Current portion of long term debt, and Long term debt. To determine the market value of equity, use the following data: On March 17, 2020 the market value of equity (or "Market Cap")…arrow_forwardBelow, inputs have been arrived for the XYZ company. Using CAPM calculate its cost of equity. (Observe 2 decimal places)arrow_forward
- Fundamentals of Financial Management (MindTap Cou...FinanceISBN:9781285867977Author:Eugene F. Brigham, Joel F. HoustonPublisher:Cengage LearningPrinciples of Accounting Volume 2AccountingISBN:9781947172609Author:OpenStaxPublisher:OpenStax College