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Component costs
WACC
CHAPTER 13
The Cost of
Capital
Cost of Capital
The
New Common
Common Stock
Stock
New
As
Weighting example
Bonds
40
Pref. Stock 100
Common 100
Ret. Earn. 160
Total L & E 400
What is weight of each component?
Weighting example
Bonds
Pref. Stock
Common
Ret. Earn.
Total L & E
40
100
100
160
400
The
Why
1,000
1,000
100*
EBT
900
1,000
Tax 40%
360
400
EAT
540
600
Interest
60
difference
is tax deductible, so
aftertax kd = pretax kd (1-T)
= 10% (1 - 0.40) = 6%
T = tax rate =
40%
Cost of debt
What
Component cost of
preferred stock
WACC = xdkd(1-T) + xpkp + xcskcs
kp
The
Component cost of
preferred stock
Preferred
0 not correlated
1 - moves with the market
2 twice as volatile
r = kcs
kcs = (D1 / P0)+ g
10.4%
Calculate WACC
If
40%
Balance Sheet
use costs that were just calculated
Market values
Cash
5,000
LT Debt
3,000
Equipment
5,000
Pref. Stock
1,000
Stock
6,000
10,000
Tot. Assets
10,000
WACC
You
Cardinal
Usually
Cost (After-tax)
6.5%
12.0
7.0%
12.5
Weights
Weighted
20%
80
1.3%
9.6
10.9%
40%
60
2.8%
7.5
10.3%
Financial Plan C:
Debt
Equity.
9.0%
15.0
60%
40
5.4%
6.0
11.4%