Granby Foods' (GF) balance sheet shows a total of $25 million long-term debt with a coupon rate of 8.50%. The yield to maturity on this debt is 8.00%, and the debt has a total current market value of $27 million. The company has 10 million shares of stock, and the stock has a book value per share of $5.00. The current stock price is $20.00 per share, and stockholders' required rate of return, rs, is 12.25%. The company recently decided that its target capital structure should have 35% debt, with the balance being common equity. The tax rate is 40%. Calculate WACCs based on book, market, and target capital structures. What is the sum of these three WACCs?

Question

Quizplus · Accepted Answer

$\begin{array}{lr}
\text { Tax rate } & 40 \% \
\text { Target } \mathrm{w}_{\mathrm{d}} & 35.00 \% \
\text { Target } \mathrm{w}_{\mathrm{ce}} & 65.00 \% \
\text { Coupon rate } & 8.50 \% \
\text { YTM }^{-r_{\mathrm{d}}} & 8.00 \% \
\mathrm{r}_{\mathrm{d}}(1-\mathrm{T}) & 4.80 \% \
\mathrm{r}_{\mathrm{S}} & 12.25 \% \
\text { Number of shares (millions) } & 10 \
\
\text { Price per share }& \$ 20.00 \
 \mathrm{BV} \text { per share } & \$ 5.00 \
\text { Book equity }=\mathrm{BV} / \text { sh } \times \text { No. Shs } & \$ 50.00 \
\text { Market equity }=\mathrm{P}_{0} \times \text { No. Shs } & \$ 200.00 \
\text { Book value of debt (millions) }  & \$ 25.00 \
\text { Market value of debt (millions) }& \$ 27.00
\end{array}$ 
 $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $  $\text { BOOK VALUE WEIGHTS }$
$\begin{array}{lrrrrr}
&Capital& Weights& \text { Cost rates}&Product\
\text { Debt } & \$ 25.00 & 33.33 \% & 4.80 \% & 1.60 \% \
\text { Equity } & \$ 50.00 & 66.67 \% & 12.25 \% & 8.17 \% \
\text { Total capital } & \$ 75.00 & 100.00 \% & W \mathrm{ACC}= & 9.77 \%
\end{array}$
$ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $\text { MARKET VALUE WEIGHTS }$
$\begin{array}{lrrrrr}
&Capital& Weights& \text { Cost rates}&Product\
\text { Debt } & \$ 27.00 &  11.89 \% & 4.80 \% & 0.57 \% \
\text { Equity } & \$ 200.00 & 88.11 \% & 12.25 \% & 10.79 \% \
\text { Total capital } & \$ 227.00 & 100.00 \% & \text { WACC } & 11.36 \%
\end{array}$
$ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $ \quad $ $\text { TARGET WEIGHTS }$
$\begin{array}{lrrrr}
&Capital& Weights& \text { Cost rates}&Product\
\text { Debt } & \text { NA } & 35.00 \% & 4.80 \% & 1.68 \% \
\text { Equity } & \text { NA } & 65.00 \% & 12.25 \% & 7.96 \% \
\text { Total capital } & \text { NA } & 100.00 \% & \text { WACC } & 9.64 \%
\end{array}$
$ \quad $ $ \quad $ $ \quad $$ \quad $ $ \quad $ $ \quad $$ \quad $ $ \quad $ $ \quad $Sum of the 3 WACCS $ = $  $ \quad $ $ \quad $ $ \quad $$ \quad $  $ 3077 \% $

Granby Foods' (GF) Balance Sheet Shows a Total of $25