The American Movie Company has the following sources of financing reported on it
ID: 2621595 • Letter: T
Question
The American Movie Company has the following sources of financing reported on its balance sheet:
Liabilities & Equity
Book Value
Debt (13% coupon bonds, $1000 face value)
$4,000,000
Common stock, 100,000 shares
$6,000,000
Total
$10,000,000
The bonds are currently selling for $900, and have a yield-to-maturity of 15%. The common stock is currently priced at $70 per share, and has an estimated beta of 1.5. The current risk-free rate is 6%, and the expected return on the market portfolio is 16%. The company pays taxes at the rate of 40%.
Compute the firm
Liabilities & Equity
Book Value
Debt (13% coupon bonds, $1000 face value)
$4,000,000
Common stock, 100,000 shares
$6,000,000
Total
$10,000,000
Explanation / Answer
expected return on equity = 6+1.5*(16-6) = 21%
cost of equity = 21%
cost of debt = 15*(1-.4) = 9%
Present value of all debt = (4000000/1000)*900 = $3600000
Present value of all equity = 100000*70 = $7000000
TOtal Market value = (7+3.6) million =$ 10.6 million
weight of debt = 3.6/10.6
weight of equity = 7/10.6
WACC = (3.6/10.6)*9+(7/10.6)*21 = 16.92%
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