Walmart Corporation has a target capital structure consistingof 20 percent debt,
ID: 2662207 • Letter: W
Question
Walmart Corporation has a target capital structure consistingof 20 percent debt, 20 percent preferred stock, and 60 percentcommon equity. Assume the firm has insufficient retained earningsto fund the equity portion of its capital budget. Its bonds have a12 percent coupon, paid semiannually, a current maturity of 20years, and sell for $1,000. The firm could see, at par, $100preferred stock that pays a 12 percent annual dividend, butflotation costs of 5 percent would be incurred. Rollins' beta is1.2, the risk free is 10 percent, and the market risk premium is 5percent. Rollins is a constant growth firm that just paid adividend of $2.00, sells for $27.00 per share, and has a growthrate of 8 percent. The firm's policy is to use a risk premium of 4percentage points when using the bond-yield-plus-risk-premiummethod to find ks. Flotation costs on new common stock totals 10percent, and the firm's marginal tax rate is 40 percent. 1. What is Rollins' WACC? 2. What is Rollins' cost of preferred stock? Walmart Corporation has a target capital structure consistingof 20 percent debt, 20 percent preferred stock, and 60 percentcommon equity. Assume the firm has insufficient retained earningsto fund the equity portion of its capital budget. Its bonds have a12 percent coupon, paid semiannually, a current maturity of 20years, and sell for $1,000. The firm could see, at par, $100preferred stock that pays a 12 percent annual dividend, butflotation costs of 5 percent would be incurred. Rollins' beta is1.2, the risk free is 10 percent, and the market risk premium is 5percent. Rollins is a constant growth firm that just paid adividend of $2.00, sells for $27.00 per share, and has a growthrate of 8 percent. The firm's policy is to use a risk premium of 4percentage points when using the bond-yield-plus-risk-premiummethod to find ks. Flotation costs on new common stock totals 10percent, and the firm's marginal tax rate is 40 percent. 1. What is Rollins' WACC? 2. What is Rollins' cost of preferred stock?Explanation / Answer
Rollin Inc. WACC Wd=0.2, Wp=0.2, Wc=0.6 beta=1.2. Krf=10%, Bond yied=12%, Kmrp=5% = (Km-Krf) Floation cost for New Common equity = 10% = Fe Floation cost for Debt = 5% = Fd Ks=Bond yield+Risk premium=12+4=16% Ks=D1/[Po(1-Fe)] +g = 2/[27(1-10%)] +8%= 16% Ks=Krf+(Km-Krf)beta = 10% + 5%*1.2 = 16% Kp=Dividend of Prefered Stock Dp/Price of Prefered stockPp=12/(100-5%)=12/95=13% Now lets calculate Kd PMT/YR:The bond makes semiannual coupon payments so PMT/Y=2. Nper:There are 20 years until maturity, with 2 payments each year.Multiply 20years by 2 payments per year to get Nper=40. PMT:The bond pays 12% of par each year in coupon payments. So,$1000 times 12% tells us that it will pay $120 per year. However, since P/Y is 2, divide the120 by 2 to get $60. It is a cash outflow so it has to be negative. PV:The bonds sold at par value of $1,000. However, the firm had topay floatation costs of 5% or $50 per bond. The amount the firm actually receives isthus $1,000 - $50 = $950. FV:Remember that with bonds, the firm will have to pay the parvalue back at the end as a cash outflow. So the FV = -$1,000. Now put these values in excel function Rate =Rate(20*2,120/2,-950,-1000) = 6.35%. This is HY rate. So Annual rate = 2*6.35=12.7% = Kd Now WACC=WdKd(1-T)+ WpKp+WcKs So WACC = 0.2*12.7%*(1-0.4)+ 0.2*13%+0.6*16% = 13.72% Kp=Dividend of Prefered Stock Dp/Price of Prefered stockPp=12/(100-5%)=12/95=13%
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