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Weighted Average Cost of Capital and Financial Strategy

What does calculating the weighted average cost of capital tell you about Foust company's Financial strategy including the level of risk involved in the business?

How could the company use WACC calculations in determining future investments?

Year EPS Growth Rate
1993 3.9 7.95%
1994 4.21 8.08%
1995 4.55 7.91%
1996 4.91 8.15%
1997 5.31 7.91%
1998 5.73 8.03%
1999 6.19 7.92%
2000 6.68 8.08%
2001 7.22 8.03%
2002 7.8 8.02%
Average growth rate 8.01%

Now calculate the cost of Equity:
D1: 4.29
G: 8.01%
PO: 65
Ks: 14.61%
Cost of Debt:
Tax Rate: 40%
Interest Rate: 9%
Kd: 5.40%

B. Weight
Debt: 104,000,000 0.40
Common Equity: 156,000,000 0.60
Total: 260,000,000

WACC=We*Ke+Wd*Kd: 10.92%

Solution Preview

What does calculating the weighted average cost of capital tell you about Foust company's Financial strategy including the level of risk involved in the business?

The cost of capital is the required rate of return that a firm must achieve in order to cover the cost of generating funds in the marketplace. Another way to think of the cost of capital is as the opportunity cost of funds, since this represents the opportunity cost for investing in assets with the same risk as the firm. When ...

Solution Summary

This solution describes what the WACC value tells about the Foust company's financial strategy, especially the level of risk involved in the business. It also recommends how the Foust company can use the WACC calculations to determine future investment. Reference used is included.

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