Question

XYZ Inc. Will pay a $2.5 dividend at year-end(D1 = $2.5), The dividend is expected to grow at a constant rate of 4% a year, and they come in stock currently sells for $52.5 a share the before-tax cost of debt is 6%, and the tax rate is 40% the target capital structure consists of 55% debt and 45% common Equity the beta of common stock is 0.95 and the market risk premium is 7%, what is your best estimate of the company’s WACC?

A. 5.43%

B. 5.92%

C. 7.67%

D. cannot be calculated using the information provided

E. 6.42%

Answer 1

Answer Part B 5.92 %

weighted average Cost of capital
		weight(a)	Cost of capital(b)	axb
Common equity	0.45	8.761	3.94
debt(kd)		0.55	3.6	1.98
		1
	WACC			5.92

working notes

Cost of debt (Kd)

6(1-Tax)

20(1-.40)

3.6

Common equity
	Using Dividend discount model
Value of common equity =	D1 / Re - g
=>	52.5 =2.5/Re-0.04
=>	0.0876
Re=	8.761