The company BIGCO has just approved their last balance sheet.
The total value of the assets is 100 million €.
The company has an equity of 25 million € (25 thousand shares with a par value of 1 thousand €).
The remaining part is financed by 150 thousand bonds with a par value of 500€.
The bonds have a maturity of 5 years, with annual coupon payments. The coupon rate is 6,5% and the bonds are selling today at 100%.
The corporate tax rate is 25% and the Risk-free rate is 4%, the market return is just 6,5%.
The Beta of BIGCO is 1.2
Calculate the WACC and explain in detail all the steps.
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The Weighted Average Cost of Capital (WACC) is a calculation of the average cost of the company's financing sources, including equity and debt.
To calculate the WACC, we will follow these steps:
1. Calculate the cost of equity using the Capital Asset Pricing Model (CAPM):
Cost of Equity = Risk-free rate + Beta * (Market return - Risk-free rate)
= 4% + 1.2 * (6.5% - 4%)
= 4% + 1.2 * 2.5%
= 7%
2. Calculate the cost of debt:
The bonds are selling at par value (100%), so the cost of debt is equal to the coupon rate:
Cost of Debt = Coupon Rate
= 6.5%
3. Calculate the Weighted Average Cost of Capital:
WACC = (Equity / Total assets) * Cost of Equity + (Debt / Total assets) * Cost of Debt * (1 - Tax rate)
First, we need to calculate the weight of equity and debt in the capital structure:
Weight of Equity = Equity / Total assets
= 25 million € / 100 million €
= 25%
Weight of Debt = Debt / Total assets
= (150,000 bonds * 500€) / 100 million €
= 75 million € / 100 million €
= 75%
Now, we can plug these values into the WACC formula:
WACC = 25% * 7% + 75% * 6.5% * (1 - 25%)
= 1.75% + 4.875% * 0.75
= 1.75% + 3.65625%
= 5.41%
Therefore, the WACC for BIGCO is 5.41%. This is the average cost of the company's financing sources, taking into account both equity and debt.
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