 
 

 
 

 
 

 
 

 
 

 
 

where wd, wps, and we are the weights used for debt, preferred stock, and common equity.
 
 

 
 

 
 

The aftertax cost of debt [kd (1 – t)] is used to compute the weighted average cost of capital. It is the interest rate on new debt (kd) less the tax savings due to the deductibility of interest (kdt).
Here, we are given the inputs needed to calculate kd: N = 15 × 2 = 30; PMT = (1,000 × 0.07) / 2 = 35; FV = 1,000; PV = 1,047.46; CPT → I = 3.25, multiply by 2 = 6.50%.
Thus, kd (1 – t) = 6.50% × (1 – 0.35) = 4.22%
Preferred stock is a perpetuity that pays a fixed dividend (Dps) forever. The cost of preferred stock (kps) = Dps / P
 Dps = preferred dividends. 
P = price 
Here, kps = Dps / P = $2.80 / $35 = 0.08, or 8.0%.
kce = (D1 / P0) + g
 D1 = Dividend in next year 
P0 = Current stock price  
g = Dividend growth rate 
Here, D1 = D0 × (1 + g) = $3.00 × (1 + 0.06) = $3.18.
kce = (3.18 / 40) + 0.06 = 0.1395 or 13.95%.
WACC = (wd)(kd) + (wps)(kps) + (wce)(kce)
where wd, wps, and wce are the weights used for debt, preferred stock, and common equity.
Here, WACC = (0.30 × 4.22%) + (0.20 × 8.0%) + (0.50 × 13.95%) = 9.84%.
 
 

WACC = [wd × kd × (1 − t)] + (wps × kps) + (wce × ks)
 
 

 
 

 
 

 
 

Common equity  Preferred equity  Debt 
 
 

Statement 1  Statement 2 
 
 

Debt  Equity 
 
 

For the bonds  =  200,000 × $965  =  $193,000,000 
For the stocks  =  6,000,000 × $28  =  $168,000,000 
$361,000,000 
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

PV = 94.54; FV = 100; PMT = 6 / 2 = 3; N = 14; CPT → I/Y = 3.50 × 2 = 7%
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

CAPM  Discounted Cash Flow 
 
 

Debt Capital  Preferred Stock Capital 
 
 

 
 

 
 

 
 

 
 

Debt  Preferred stock 
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Country Risk Premium for Mexico  Cost of Equity for Project 
 
 

= (0.077 – 0.046)(0.38 ÷ 0.26) = 0.0453, or 4.53%
 
 

= (0.072 – 0.046)(0.40/0.24) = 0.043, or 4.3%.
 
 

Amount of New Debt (in millions)  Aftertax Cost of Debt  Amount of New Equity (in millions)  Cost of Equity 
$0 to $199  4.5%  $0 to $299  7.5% 
$200 to $399  5.0%  $300 to $699  8.5% 
$400 to $599  5.5%  $700 to $999  9.5% 
 
 

Amount of New Debt (in millions)  Aftertax Cost of Debt  Amount of New Equity (in millions)  Cost of Equity 
$0 to $149  4.2%  $0 to $399  7.5% 
$150 to $349  5.0%  $400 to $799  8.5% 
Breakpoint for new debt capital  Breakpoint for new equity capital 
 
 

 
 

 
 

 
 

 
 

 
 

Project 1 NPV  Project 2 NPV 
 
 

Dollar amount of floatation costs  NPV of project 
 
 

 
 

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