Your company has two divisions: One division sells software and the other divisi

Question

Your company has two divisions: One division sells software and the other division sells computers through a direct sales channel, primarily taking orders over the internet. You have decided that Dell Computer is very similar to your computer division, in terms of both risk and financing. You go online and find the following information: Dell's beta is 1.22, the risk-free rate is 4.9%, its market value of equity is $67.8 billion, and it has $707 million worth of debt with a yield to maturity of 5.9%. Your tax rate is 40% and you use a market risk premium of 5.9% in your WACC estimates. What is an estimate of the WACC for your computer sales division If your overall company WACC is 12.1% and the computer sales division represents 36% of the value of your firm, what is an estimate of the WACC for your software division What is an estimate of the WACC for your computer sales division The weighted average cost of capital for your computer sales division is

Explanation / Answer

Cost of equity = Risk-free rate + Beta * Market risk premium

= 4.9 + 1.22 * 5.9

= 4.9 + 7.198

= 12.098 %

Cost of Debt = 5.9 ( 1 - 0.40)

= 3.54%

WACC

Conclusion:- a) WACC for your computer sales division = 12.01242% i.e., 12.01% (approx)

Weight Cost Weight * Cost Equity = 67.8 bilion i.e., 67.8 * 1000000000 = 67800000000 (a) 0.99 (approx) 12.098 11.97702 Debt = 707 milion i.e., 707 * 1000000 = 707000000 (b) 0.01 3.54 0.0354 Total (a) + (b) = 68507000000 1 12.01242

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