The Patrick Company’s year-end balance sheet is shown below. Its cost of common
ID: 2712981 • Letter: T
Question
The Patrick Company’s year-end balance sheet is shown below. Its cost of common equity is 13.30%, its before-tax cost of debt is 5.30%, and its marginal tax rate is 35.00%. Assume that the firm’s long-term debt sells at par value. The firm has 1,030shares of common stock outstanding that sell for $5.30 per share. Calculate Patrick’s WACC using market value weights.
Question 21 options:
7.442%
9.300%
8.545%
10.100%
9.358%
Assets Liabilities and Equity Cash 1,000 Accounts receivable 2,000 Inventories 7,000 Long-term debt 8,000 Plant and equipment, net 10,000 Common equity 12,000 Total assets 20,000 Total liabilities and equity 20,000Explanation / Answer
Answer:
Correct answer is 7.442%
Working and calculation is given herebelow:
Cost of Equity (Ke) = 13.30%
Cost of Debt (Before Tax) = 5.30%
Marginal Tax Rate = 35%
Cost of Debt (after tax) = 5.30%(1-Tax rate) = 5.30% (1-0.35) = 3.445%
Calculation of WACC using market value weights
Particulars
Market Value
Market Weight
Cost of Capital
Market Weight
X
Cost of Capital
Common Equity
(1030 Share x $5.30)
$5,459
$5,459 / $13,459 = 0.406
0.133
0.053998
Long-term debt
(at par)
$8,000
$8,000 / $13,459 = 0.594
0.03445
0.0204633
Total
$13,459
1.00
0.0744613 or 7.44%
Particulars
Market Value
Market Weight
Cost of Capital
Market Weight
X
Cost of Capital
Common Equity
(1030 Share x $5.30)
$5,459
$5,459 / $13,459 = 0.406
0.133
0.053998
Long-term debt
(at par)
$8,000
$8,000 / $13,459 = 0.594
0.03445
0.0204633
Total
$13,459
1.00
0.0744613 or 7.44%
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