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Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250
Textbook Problem

WACC The following table gives Foust Company's earnings per share for the last 10 years. The common stock, 7.8 million shares outstanding, is now (1/1/19) selling for $65.00 per share. The expected dividend at the end of the current year (12/31/19) is 55% of the 2018 EPS. Because investors expect past trends to continue, g may be based on the historical earnings growth rate. (Note that 9 years of growth are reflected in the 10 years of data.)

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Tire current interest rate on new debt is 9%; Foust's marginal tax rate is 40%, and its target capital structure is 40% debt and 60% equity.

  1. a. Calculate Foust's after-tax cost of debt and common equity. Calculate the cost of equity as rs = D1/Pa + g.
  2. b. Find Foust's WACC.

a.

Summary Introduction

To Determine: The after-tax cost of debt, cost common equity and cost of equity of Company F.

Introduction: WACC is abbreviated as weighted average cost of capital, is a equation that computes the average rate of return that an organization requires to acquire to repay its security holders or investors. This computation is utilized to determine if a project is beneficial or in the event that it just repays the expense of subsidizing the project.

Explanation

Determine the after-tax cost of debt

AftertaxCostofDebt=[CostofDebt(rd)×(1TaxRate(T))]=[9%×(140%)]=[9%×60%]=5.40%

Therefore the after-tax cost of debt is 5.40%.

Determine the cost of common equity

Using a excel spreadsheet and excel function =RATE, the cost of common equity is determined as 8.01%. There are 9 years from 2009 to 2018.

Excel Spreadsheet:

Therefore the cost of common equity is 8.01%

b.

Summary Introduction

To Determine: The WACC.

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