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Caterpillar Inc. has 8 million shares of common stock outstanding, and 1.5 million 8% percent semi-annual bonds outstanding, par value $100 each. The common stock currently sells for $25 per share, and has a beta of 1.25, and the bonds have 10 years to maturity and sell for 93% of par. Cost of debt is 9.5%. The market risk premium is 10%, the return on risk free rate is 4.5%, and tax rate is 30%.
a) What is the firm's market value of debt and equity?
b) Caterpillar is evaluating a new investment project that has the same risk as the overall firm, what is the rate that the firm should use to discount the project's cash flows (WACC)?
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