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XYZ has a capital structure that is 35 % debt, 5 percent preferred stock, and 65...

XYZ has a capital structure that is 35 % debt, 5 percent preferred stock, and 65 %common stock. The pretax cost of debt is 8.25 %, the cost of preferred is 8%, and the cost of common stock is 117%. The tax rate is 36%. The company is considering a project that is equally as risky as the overall firm. This project has initial costs of $550,000 and annual cash inflows of $130,000, $400,000, and $550,000 over the next 3 years, respectively. What is XYZ's WACC? What is the projected net present value of this project?

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Answer #1

where wd = weight of debt in capital structure

wp = weight of preferred stock in capital structure

we = weight of common stock in capital structure

rd = cost of debt

rp = cost of preferred stock

re = cost of common stock

t = tax rate

Putting all the values in above equation, we get

WACC = 0.35 * 8.25 % * ( 1 - 0.36) + 0.05 * 8% + 0.65 * 11.7 %

= 9.85 %

Year Cash Flows
0 - $ 550000
1 $ 130000
2 $ 400000
3 $ 550000

= $ 130000 / ( 1 + 0.0985) + $ 400000 / ( 1 + 0.0985) + $ 550000 / ( 1 + 0.0985) - $ 550000

= $ 314688

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