home / study / questions and answers / business / finance / 12. wilson electric

Question

home / study / questions and answers / business / finance / 12. wilson electric is planning a $100 million ...

Question

12. Wilson Electric is planning a $100 million expansion. This expansion will be financed, in part with debt issued with a coupon interest rate of 8.27%. The bonds have a 20-year maturity and a $1000 face value, and they will be sold to net Wilson Electric $996 after issue costs. Wilson Electric’s marginal tax rate is 40%.

Preferred stock will cost Wilson Electric 12% after tax. Wilson Electric’s common stock pays a dividend of $2 per share. The current market price per share is $25, and new share can be sold to net $24 per share. Wilson Electric’s dividends are expected to increase at an annual rate of 5% for the foreseeable future. Wilson Electric expects to have $20 million of retained earnings available to finance the expansion.

Wilson Electric’s target capital structure is as follows:

Debt    25%
Preferred Stock    10%
Common Equity    65%

Calculate the weighted average cost of capital that is appropriate to use in evaluating this expansion program.
A. 10.25%

B. 11.31%

C. 12.08%

D. 13.17%

Explanation / Answer

Kd = [82.7 x (1 - 0.40) + (1,000 - 996)/20] / [(1,000+996)/2] = 4.99% or 5%

Kp = 12%

Ke = [2 x (1.05) / 24] + 0.05 = 13.75%

Kre = (2 x 1.05)/25 + 0.05 = 13.4%

WACC = (5 x 25%) + (12 x 10%) + (13.75 x 45%) + (13.40 x 20%) = 11.31%. Thus, Option B.

Related Questions

Navigate

• Browse (All)
• Browse H
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.