Question

Johnson Industries finances its projects with 40 percent debt, 10 percent preferred stock, and 50 percent...

Johnson Industries finances its projects with 40 percent debt, 10 percent preferred stock, and 50 percent common stock. · The company can issue bonds at a yield to maturity of 7.6 percent. · The cost of preferred stock is 9 percent. · The company's common stock currently sells for $29 a share. · The company's dividend has just paid $2.00 a share (D0 = $2.00), and is expected to grow at a constant rate of 5 percent per year. · Assume that the flotation cost on debt and preferred stock is zero, and no new stock will be issued. · The company's tax rate is 30 percent. What is the company's weighted average cost of capital (WACC)? Express your answer in percentage (without the % sign) and round it to two decimal places.

Homework Answers

Answer #1

Debt:

Weight of Debt = 40%

Annual YTM = 7.60%

Before-tax Cost of Debt = 7.60%
After-tax Cost of Debt = 7.60% * (1 - 0.30)
After-tax Cost of Debt = 5.32%

Preferred Stock:

Weight of Preferred Stock = 10%
Cost of Preferred Stock = 9.00%

Equity:

Weight of Common Stock = 50%

Expected Dividend = Recent Dividend * (1 + Growth Rate)
Expected Dividend = $2.00 * 1.05
Expected Dividend = $2.10

Cost of Common Equity = Expected Dividend / Current Price + Growth Rate
Cost of Common Equity = $2.10 / $29.00 + 0.05
Cost of Common Equity = 0.1224 or 12.24%

WACC = Weight of Debt * After-tax Cost of Debt + Weight of Preferred Stock * Cost of Preferred Stock + Weight of Common Stock * Cost of Common Stock
WACC = 0.40 * 5.32% + 0.10 * 9.00% + 0.50 * 12.24%
WACC = 9.15%

Weighted average cost of capital of the company is 9.15%

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