Reference no: EM131457919
Weighted Average Cost of Capital
Purpose of Assignment -
Students should understand the mechanics in calculating a company's weighted average cost of capital using the capital asset pricing model (CAPM) and its use in making financial investments.
Assignment Steps -
Resources: Tutorial help on Excel and Word functions can be found on the Microsoft Office website. There are also additional tutorials via the web that offer support for office products.
Scenario: You work for an investment banking firm and have been asked by management of Vestor Corporation (not real), a software development company, to calculate its weighted average cost of capital, to use in evaluating a new company investment. The firm is considering a new investment in a warehousing facility, which it believes will generate an internal rate of return of 11.5%. The market value of Vestor's capital structure is as follows:
|
Source of Capital
|
Market Value
|
|
Bonds
|
$10,000,000
|
|
Preferred Stock
|
$2,000,000
|
|
Common Stock
|
$8,000,000
|
To finance the investment, Vestor has issued 20 year bonds with a $1,000 par value, 6% coupon rate and at a market price of $950. Preferred stock paying a $2.50 annual dividend was sold for $25 per share. Common stock of Vestor is currently selling for $50 per share and has a Beta of 1.2. The firm's tax rate is 34%. The expected market return of the S&P 500 is 13% and the 10-Year Treasury note is currently yielding 3.5%.
Determine what discount rate (WACC) Vestor should use to evaluate the warehousing facility project.
Assess whether Vestor should make the warehouse investment.