54Questions McDaniel Nienberg Palmer Pastor
Questions 1. a. Discuss the specific items of capital that should be included in the WACC.
Because WACC is used for making long term capital investment decisions, the WACC should include long term debt, preferred stock and common stock that helps pay for long term assets. Also include short term sources of capital like accounts payable and accruals dealing with noninterest bearing liabilities and short term interest bearing debt like notes payable b. The comptroller currently finds the weights for the weighted average cost of capital (WACC) from information from the balance sheet shown in Table 2. Compute the book value weights that the comptroller currently uses for the company’s capital structure.
Item Amount Weight
Long term bonds 40000 / 129297 or 30.9%
Preferred stock 10000 / 129297 or 7.7%
Total Comm. Equity 79297 / 129297 or 61.3% c. Based on the suggestion that the focus should be on market values, compute the weights of debt, preferred stock, and common stock.
Market value of debt =120.90*1,000/100 per bond =1,209
Total market value of debt in capital structure = 1209*40,000,000/1000 = 48,360,000
Market value of Preferred stock (closing price) =105*10,000,000/100 = 10,500,000
Market value of common stock =30.50*6.2261 million = 189,896,000
Item Amount Weight Percent
Long term debt 48360 / 248760 19.4%
Preferred stock 10500 / 248760 4.2%
Common Equity 189900 / 248760 76.3% d. Are book value or market value weights better for calculating the firm’s weighted average cost of capital?
Market value weights are preferred over book value when calculating the firms WACC because market value shows the measure of each type of capital at the market value. The book value shows the proportion of the capital in the financial structure of the firm. 2. a. Critique Ace Repair’s current method of estimating its before-tax cost of debt.
Because stockholders only really care about cash flows that they can use in the form of
Because WACC is used for making long term capital investment decisions, the WACC should include long term debt, preferred stock and common stock that helps pay for long term assets. Also include short term sources of capital like accounts payable and accruals dealing with noninterest bearing liabilities and short term interest bearing debt like notes payable b. The comptroller currently finds the weights for the weighted average cost of capital (WACC) from information from the balance sheet shown in Table 2. Compute the book value weights that the comptroller currently uses for the company’s capital structure.
Item Amount Weight
Long term bonds 40000 / 129297 or 30.9%
Preferred stock 10000 / 129297 or 7.7%
Total Comm. Equity 79297 / 129297 or 61.3% c. Based on the suggestion that the focus should be on market values, compute the weights of debt, preferred stock, and common stock.
Market value of debt =120.90*1,000/100 per bond =1,209
Total market value of debt in capital structure = 1209*40,000,000/1000 = 48,360,000
Market value of Preferred stock (closing price) =105*10,000,000/100 = 10,500,000
Market value of common stock =30.50*6.2261 million = 189,896,000
Item Amount Weight Percent
Long term debt 48360 / 248760 19.4%
Preferred stock 10500 / 248760 4.2%
Common Equity 189900 / 248760 76.3% d. Are book value or market value weights better for calculating the firm’s weighted average cost of capital?
Market value weights are preferred over book value when calculating the firms WACC because market value shows the measure of each type of capital at the market value. The book value shows the proportion of the capital in the financial structure of the firm. 2. a. Critique Ace Repair’s current method of estimating its before-tax cost of debt.
Because stockholders only really care about cash flows that they can use in the form of