Quantitative Problem: Currently, Meyers Manufacturing Enterprises (MME) has a ca
ID: 2784458 • Letter: Q
Question
Quantitative Problem: Currently, Meyers Manufacturing Enterprises (MME) has a capital structure consisting of 35% debt and 65% equity. MME's debt currently has a 7% yield to maturity. The risk-free rate (TRF) is 5%, and the market risk premium (rM-TRF) is 6%. Using the CAPM, MME estimates that its cost of equity is currently 11.8%. The company has a 40% tax rate a. What is MME's current WACC? Round your answer to 2 decimal places. Do not round intermediate calculations. 9.14 % b. What is the current beta on MME's common stock? Round your answer to 4 decimal places. Do not round intermediate calculations. 1.3333 c. What would MME's beta be if the company had no debt in its capital structure? (That is, what is MME's unlevered beta, bu?) Round your answer to 4 decimal places. Do not round intermediate calculations. 1.0077 MME's financial staff is considering changing its capital structure to 45% debt and 55 equity, the company went ahead with the i posed change, the red matur on the company's bonds would rise to 7.5%. The proposed change will have no effect on the company's tax rate. d. What would be the company's new cost of equity if it adopted the proposed change in capital structure? Round your answer to 2 decimal places. Do not round intermediate calculations 1.21 % e. What would be the company's new WACC if it adopted the proposed change in capital structure? Round your answer to 2 decimal places. Do not round intermediate calculations 8.77 %Explanation / Answer
Cost of debt = 7%
After tax cost of debt = 7% * (1 - 40%)
After tax cost of debt = 4.2%
WACC = Cost of Equity * Weight of Equity + Cost of Debt * Weight of Debt
WACC = 11.8% * 0.65 + 4.2% * 0.35
WACC = 9.14%
Required Return = RIsk Free Rate + Beta * Market Risk Premium
11.8% = 5% + Beta * 6%
Beta = 1.1333
Part C
Unlevered Beta - Beta is calculated based on CAPM which does not consider debt. There will be no change in debt.
Part D
Cost of Equity is calculated based on CAPM which does not consider change in capital structure or cost of debt. There will be no change in cost of equity
Part E
WACC = 0.45 * 7.5% * (1 - 40%) + 0.55 * 11.8%
WACC = 8.52%