Find the WACC of William Tell Computers. The total book value of the
firm's equity is $10 million; book value per share is $20. The stock
sells for a price of $30 per share, and the cost of equity is 15
percent. The firm's bonds have a par value of $5 million and sell at a
price of 110 percent of par. The yield to maturity on the bonds is 9
percent, and the firm's tax rate is 40 percent.

	Market			After tax	

           Market Value    Proportions     Cost     After tax cost      WACC  
Debt
Equity
Total

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Clarification of Question by wombat319-ga on 28 May 2005 04:46 PDT

The line where it says Market and After tax shouldn't be there.  :-)

Hi!!

Number of shares = $10 million / $20 = 0.5 million

Calculate market value of equity:
E = Number of shares * Stock price = 
  = 0.5 million * $30 =
  = $15 million

Calculate market value of debt:
D = par value * % price of par =
  = $5 million * 110% =
  = $5.5 million

V = D + E = $20.5 million


Compute WACC:

WACC = (D/V)*Rd*((1-T) + (E/V)*Re

where:
Rd = cost of debt (yield to maturity) = 9%
T = tax rate = 40%
Re = cost of equity = 15%

Then William Tell's WACC is:
WACC = (5.5/20.5)*0.09*0.60 + (15/20.5)*0.15 =
     = 0.0145 + 0.1098 =
     = 0.1243 = 12.43%


To complete the question table note that:
After Tax cost of debt = Rd*((1-T) = 5.40%
After Tax cost of equity = Re = 15%
Debt Proportion = D/V = 26.83%
Equity Proportion = E/V = 73.17%


           Market Value    Proportions     Cost     After tax cost  
Debt       $15 million        26.83%        9%          5.4% 
Equity     $5.5 million       73.17%       15%          15%  

WACC  = 12.43%


I hope that this helps you. Feel free to request for a clarification
if you need it.

Regards.
livioflores-ga

You're good! :-) I will be posting about 4 more of these in the next
week or so & hope I get you to answer them. Your explanations are
crystal clear in what for me is a very confusing area!

Thankyou so much for the generous tip, the good rating and the comments.
If you want that I answer your questions you can request for me
directly by adding "To livioflores" in the subject of the question.

Regards.
livioflores-ga

THANKS!  I will!  :-)