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You have recently started a job at SolaBabba, a leading green hydrogen provider
You have recently started a job at SolaBabba, a leading green hydrogen provider. Your manager has asked you to estimate the Weighted Average Cost of Capital. You remember from your finance course at UQ what information you need, and have collected the following data:
- SolaBabba Ltd has 11,000,000 shares outstanding. These shares have just paid a dividend of $0.63 and are expected to grow at 3.2 per year.
- The beta of Leapinge is 1.2.
- The company faces a tax rate of 30%.
- The market risk premium is 7% and the return on risk-free Australian Government Bonds is 1.5% p.a.
- Leapinge Ltd also has $36 million in corporate bonds. These bonds have a variable interest rate which is currently 9.95% compounded annually.
- Calculate the Weighted Average Cost of capital for Solababba. Enter your answer in a decimal format to six decimal places (0.123456 not 12.3456%)
Expert Solution
Computation of Weighted Average Cost of Capital (WACC):
Weighted Average Cost of Capital (WACC) = Cost of Equity*Weight of Equity + Cost of Debt*(1-Tax Rate)*Weight of Debt
Here,
Cost of Equity = Risk-free Rate + Beta*Market Risk Premium = 1.5% + 1.2*7% = 1.5% + 8.4% = 9.90%
Cost of Debt = 9.95%
Current Stock Price = Next Year Dividend/(Cost of Equity - Growth Rate)
= $0.63*(1+3.2%)/(9.90%-3.2%)
= $9.70
Market Value of Equity = 11,000,000*$9.70 = 106,700,000
Market Value of Debt = 36,000,000
So, Market Value of Firm = 106,700,000+36,000,000 = 142,700,000
Weight of Equity = Market Value of Equity / Market Value of Firm = 106,700,000/ 142,700,000 = 74.77%
Weight of Debt = Market Value of Debt/ Market Value of Firm =36,000,000/ 142,700,000 = 25.23%
Weighted Average Cost of Capital (WACC) = 9.90%*74.77% + 9.95%*(1-30%)*25.23%
= 7.40% + 1.76%
Weighted Average Cost of Capital (WACC) = 9.16%
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