The following table gives Foust Company\'s earning per share for the last 10 yea

Question

The following table gives Foust Company's earning per share for the last 10 years. The common stock, 7.8 million shares outstanding is now (1 1/13) selling for $65. per share. The expected dividend at the end of the current yaer (12/31/13) is 55% of the 2012 EPS. Because investors expect past trends to continue, g may be based on the historical earnings growth rate. (Note, 9 years shown) Year 2003 EPS $3.90; 2004 EPS $4.21, 2005, EPS $4.55, 2006, EPS $4.91; 2007 EPS $5.31; 2008 EPS $5.73,; 2009 EPS $6.19' 2010 EPS $6.68; 2011 EPS 7.22; 2012 E PS $7.80. The current interest rate on the new debt is 9% The marginal tax rate is 40%, its target capital structure is 40% debt and 60% equity. a. Calculae Foust's after tax cost of debt and common equity . Calculate the cost of equity as Rs=D1/P0+g. b. Find Foust's WACC.

Explanation / Answer

Hi,

Please find the answer as follows:

Part A:

EPS has increased from 3.9 to 7.8 over a period of 9 years.

which means 7.8 = 3.9*(1+r)^9

Calculation of R gives rate as 8%

Expected Dividend = (7.8*55%)/65 + .08 = 14.6%

After Tax Cost of Debt = 9*(1-.40) = 5.4%

Part B:

Weighted Average Cost of Capital

Weight of Debt*Cost of debt + Weight of Equity*Cost of equity

WACC = (104000000/260000000 )*5.4% + (156000000/260000000)*14.6%

WACC= 10.92%

Thanks.

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