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Homework answers / question archive / You are trying to estimate out how much it costs Disney to raise capital

You are trying to estimate out how much it costs Disney to raise capital

Finance

You are trying to estimate out how much it costs Disney to raise capital. The outstanding bonds have a 4.16% yield to maturity. The appropriate tax rate is 12%. The common stock has a current dividend (D0) of 1.76. Dividends are expected to growth by 6.5% per year and the stock is priced at $141.89. If they use 17% debt financing and 83% common stock financing, what is the weighted average cost of capital?

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  • Weighted average cost of capital (WACC) = [(S/S+B)*Rs + (B/S+B)*Rb(1-tc)]
      S = equity, B = debt, Rs = Cost of equity, Rb = cost of debt,
      tc = corporations tax rate      
             
    The yield to maturity on the bonds is the cost of debt.    
    Rb 0.0416      
    tc 0.12      
             
    For the common stock,      
    D0 1.76      
    g 0.065      
    D1 1.76*(1+.065)      
    D1 1.8744      
             
    According to the dividend growth model.      
    P0 = D1/(Rs-g)        
    P0 141.89      
    Rs is the cost of equity      
    141.89 1.8744/(R - .065)      
    (Rs - .065) 1.8744/141.89      
    (Rs - .065) 0.01321      
    Rs .01321 + .065      
    Rs 0.07821      
             
    Equity financing is 83%      
    S/(S+B) 0.83      
    Debt financing is 17%      
    B/(S+B) 0.17      
             
    WACC .83*.07821 + .17*.0416*(1-.12)      
    WACC .064914 + .007072*(.88)      
    WACC 0.07114      
             
    The weighted average cost of capital (WACC) is 7.11%.    

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