ABC Co. and XYZ Co. are identical firms in all respects except for their capital
ID: 2646088 • Letter: A
Question
ABC Co. and XYZ Co. are identical firms in all respects except for their capital structure. ABC is all equity financed with $450,000 in stock. XYZ uses both stock and perpetual debt; its stock is worth $225,000 and the interest rate on its debt is 6 percent. Both firms expect EBIT to be $51,000. Ignore taxes.
What is the cost of equity for ABC and XYZ? (Round your answers to 2 decimal places. (e.g., 32.16))
What is the WACC for ABC and XYZ? (Round your answers to 2 decimal places. (e.g., 32.16))
ABC Co. and XYZ Co. are identical firms in all respects except for their capital structure. ABC is all equity financed with $450,000 in stock. XYZ uses both stock and perpetual debt; its stock is worth $225,000 and the interest rate on its debt is 6 percent. Both firms expect EBIT to be $51,000. Ignore taxes.
c.What is the cost of equity for ABC and XYZ? (Round your answers to 2 decimal places. (e.g., 32.16))
Cost of equity ABC % XYZ % d.What is the WACC for ABC and XYZ? (Round your answers to 2 decimal places. (e.g., 32.16))
WACC ABC % XYZ %Explanation / Answer
C) As the dividend pay-out information is missing and we have to ignore tax effect, we are assuming that dividend pay-out is 100% (whatever earned has been distributed to the shareholders and retained earnings is zero). Further, we have assumed that face value of the shares is 100$ each and market value of the share is equal to face value i.e. 100$ each.
Please note: these assumption are very important to mention as the question is silent about this critical information.
Cost of equity for ABC:
Dividend per share = EBT/Number of shares
= 51000 / 4500
= 11.33 $ Per share
COE = DPS / Market value per share
= 11.33 / 100
= 11.33%
Cost of Equity for XYZ: As informed in the question is that the total capitals of both the companies are equal and they have provided the value of debt portion. Therefore, we can say, values of equity is
Total