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Homework answers / question archive / I am a consultant and I have collected the following information regarding a Publishing Company: Total Assets $3,000 Million Tax Rate 40% Opearting Income (EBIT) $800 Million Debt Ratio 0% Interest Expense $0 Million WACC 10% Net income $480 Million M/B Ratio $1
I am a consultant and I have collected the following information regarding a Publishing Company:
Total Assets $3,000 Million Tax Rate 40%
Opearting Income (EBIT) $800 Million Debt Ratio 0%
Interest Expense $0 Million WACC 10%
Net income $480 Million M/B Ratio $1.00H
Share Price $32.00 EPS = DPS $3.20
The company has no growth opportunities (g = 0), so the company pays out all of its earnings as dividends (EPS = DPS).
I believe as a Consultant if the company move to a capital structure financed with 20 percent debt and 80 percent equity (based on market values) that the cost of equity will increase to 11 percent and that the pre-tax cost of debt will be 10 percent.
If the company makes this change, what would be the total market value of firm?
Please see the attached file.
Calculate WACC
Step 1: Calculate the after tax cost of debt
Marginal Tax rate T = 40% (Corporate Tax Rate)
Pre tax cost of debt= kd= 10.00% (Yield to maturity)
After tax cost of debt= kd(1-T)= 6.000% =(100% -40.%)*10.%
Step 2: Calculate the weighted average cost of capital
WACC=weightage of debt x after tax cost of debt + weightage of common stock x cost of common stock + weightage of preferred stock x cost of preferred stock
Weightage After tax cost Weightage x Cost
Debt: 20.00% 6.00% 1.200% =20.%*6.%
Common stock 80.00% 11% 8.800% =80.%*11.%
Total: 100% 10.000%
Weighted average cost of capital=WACC= 10.00%
EBIT= $800 Million
Tax @ 40% = $320 Million
EBIT (1-Tax rate)= $480 Million
Value of the company= $4,800 Million =480 / 10.%
Answer: Total Mkt value of the firm= $4,800 Million
