Market Value Capital Structure Suppose the Schoof Company has this book value ba
ID: 2627917 • Letter: M
Question
Market Value Capital Structure
Suppose the Schoof Company has this book value balance sheet:
The current liabilities consist entirely of notes payable to banks, and the interest rate on this debt is 10%, the same as the rate on new bank loans. These bank loans are not used for seasonal financing but instead are part of the company's permanent capital structure. The long-term debt consists of 30,000 bonds, each with a par value of $1,000, an annual coupon interest rate of 7%, and a 25-year maturity. The going rate of interest on new long-term debt, rd, is 12%, and this is the present yield to maturity on the bonds. The common stock sells at a price of $62 per share. Calculate the firm'smarket value capital structure. Round your answers to two decimal places.
%
Current assets $30,000,000 Current liabilities $10,000,000 Fixed assets 50,000,000 Long-term debt 30,000,000 Common stock (1 million shares) 1,000,000 Retained earnings 39,000,000 Total assets $80,000,000 Total claims $80,000,000Explanation / Answer
a. The book and market value of the current liabilities are both $10,000,000.
The bonds market value is:
V = $60(PVIFA10%,20) + $1,000(PVIF10%,20) = $60([1/0.10]-[1/(0.1(1+0.10)20)]) + $1,000((1+0.10)20) = $60(8.5136) + $1,000(0.1486) = $510.82 + $148.60
V = $659.42.
Alternatively, using a financial calculator, input N = 20, I/YR = 10, PMT = 60, and FV = 1000 to arrive at PV = $659.46.
The total market value of the long-term debt is 40,000($659.46) = $26,378,400.
The total market value of the equity is $65,000,000 (there are 1 million shares of stock outstanding, and the stock sells for $65 per share.)
The market value capital structure is thus:
Short-term debt
10,000,000
9.86%
Long-term debt
26,378,400
26.02%
Common equity
65,000,000
64.12%
101,378,400
100.00%
b.The weighted average cost of capital is:
WACC = (wd, ST)(rd)(1 - T) + (wd, LT)(rd)(1 - T) + (ws)(rs)
WACC = 9.86%(0.08)(1-0.40) + 26.02%(0.10)(1-0.40) + 64.12%(0.14) = 11.011%
Short-term debt
10,000,000
9.86%
Long-term debt
26,378,400
26.02%
Common equity
65,000,000
64.12%
101,378,400
100.00%