Question

You have the following information about Burgundy Basins, a sink manufacturer.

Equity shares outstanding | 20 | million | |

Stock price per share | $ | 39 | |

Yield to maturity on debt | 7.5 | % | |

Book value of interest-bearing debt | $ | 350 | million |

Coupon interest rate on debt | 4.4 | % | |

Market value of debt | $ | 245 | million |

Book value of equity | $ | 410 | million |

Cost of equity capital | 11.8 | % | |

Tax rate | 35 | % | |

Burgundy is contemplating what for the company is an average-risk investment costing $38 million and promising an annual ATCF of $4.9 million in perpetuity.

a. What is the internal rate of return on the investment?
**(Round your answer to 2 decimal places.)**

b. What is Burgundy's weighted-average cost of capital?
**(Round your answer to 2 decimal places.)**

Answer #1

a

IRR = ATCF/cost = 4.9/38=12.90%

b

MV of shares = price*shares = 20*39=780m

Total Capital value = Value of Debt + Value of Equity |

=245+780 |

=1025 |

Weight of Debt = Value of Debt/Total Capital Value |

= 245/1025 |

=0.239 |

Weight of Equity = Value of Equity/Total Capital Value |

= 780/1025 |

=0.761 |

After tax cost of debt = cost of debt*(1-tax rate) |

After tax cost of debt = 7.5*(1-0.35) |

= 4.875 |

WACC=after tax cost of debt*W(D)+cost of equity*W(E) |

WACC=4.88*0.239+11.8*0.761 |

WACC =10.15% |

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