Question

5.         Shi Importer’s balance sheet shows $300 million in debt, $50 million in preferred stock, and $250 million in common equity. Shi’s tax rate is 40%. The interest rate Shi pays on its debt is 6%. The cost of preferred stock is 5.8% and the cost of common equity is 12%.

            a.         What is the company’s WACC?

Answer 1

Total capital = Debt + Preferred stock + Common equity = $300 million + $50 million + $250 million

$600 million

	Fraction of total capital
Debt [ 300 million / 600 million ]	1/2
Preferred stock [ 50 million / 600 million ]	1/12
Common equity [ 250 million / 600 million ]	5/12

Weighted Average Cost of Capital ( WACC ) = ( Cost of debt * ( 1 - tax% ) ) * 1/2 + Cost of preferred stock * 1/12 + Cost of equity * 5/12
WACC = ( 6% * ( 1 - 40% ) ) * 1/2 + 5.8%* 1/12 + 12% * 5/12	7.28%