Assume the market value of Fords' equity, preferred stock and debt are $7 billion, $4 billion and $10 billion respectively. Ford has a beta of 1.4, the market risk premium is 6% and the risk-free rate of interest is 4%. Ford's preferred stock pays a dividend of $3 each year and trades at a price of $25 per share. Ford's debt trades with a yield to maturity of 8.5%. What is Ford's weighted average cost of capital if its tax rate is 35%?

Question

Quizplus · Accepted Answer

D) Cost of equity is the next period dividend divided by the price plus the growth rate in dividends. Cost of debt is the yield to maturity times one minus the tax rate. WACC is the weight of debt times cost of debt plus weight of equity times cost of equity.
Cost of equity = 0.04 + 1.4 × 0.06 = 0.124;
Cost of debt = 0.085 × (1 - 0.35) = 0.05525;
Cost of preferred stock = $3 / $25 = 0.12;
WACC = $7 billion × 0.124 / $21 billion + $4 billion × 0.12 / $21 billion + $10 billion × 0.05525 / $21 billion = 0.09050 or 9.05%

Assume the Market Value of Fords' Equity, Preferred Stock and Debt