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8 February, 01:00

The market value of Fords' equity, preferred stock, and debt are $ 7 billion, $ 2 billion, and $ 13 billion, respectively. Ford has a beta of 1.7 , the market risk premium is 8 %, and the risk-free rate of interest is 3 %. Ford's preferred stock pays a dividend of $ 3 each year and trades at a price of $ 27 per share. Ford's debt trades with a yield to maturity of 7 %. What is Ford's weighted average cost of capital if its tax rate is 35 %?

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  1. 8 February, 01:12
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    Answer: 9.48%

    Explanation:

    Given Data

    Debts;

    $7 billion

    $2 billion

    $13 billion

    Beta of Fords stock = Beta = 1.50

    Market risk premium = Rp = 8.0%

    Risk free rate of interest = Rf = 4.0%

    Equity rate = 1.7

    Market risk rate = 0.8

    Risk free rate = 0.03

    Therefore;

    Cost of Equity (Re) = Risk free rate + equity rate * market risk premium

    = 0.03 + (1.7 * 0.8)

    = 0.166

    Preferred Stock Cost (PSC) = Dividend : stock price

    = 4 : 30

    = 0.1333

    Total debt = 13 + 6 + 2 = 21 billion

    D% = 13 billion : 21 billion

    = 0.619

    E% = 6 billion : 21 billion

    = 0.286

    P% = 2 billion : 21 billion

    = 0.095

    RD = debt capital at 8% maturity rate

    Tc = 30%

    Rwac = (w / preferred stock)

    = Re * E% + PSC * P% + Rd (1 - Tc) D%

    Rwac = (0.166) (0.286) + (0.1333) (0.095) + (0.08) (1 - 0.3) * (0.619)

    = 0.094803 * 100

    = 9.48%

    At 30% tax rate Ford weighted average cost is 9.48%
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