Week Five Financial Exercises
Week Five Financial Exercises
I have been assigned a task that entails me to determine the WACC for a given firm of my choice. Therefore, I will utilize all of the data I can obtain through research to deliver a brief report with sources of my data as well as explain and justify how I came to conclude the given WACC. Purpose of WACC
A WACC refers to the weighted average cost of capital. “The purpose of WACC is to determine the cost of each part of the company’s capital structure based on the proportion of equity, debt, and preferred stock it has” (CFI Education Inc., n.d.).
After some research, I decided to choose the Microsoft Corporation. According to Microsoft Corp. (2019), Microsoft “enables digital transformation for the era of an intelligent cloud and an intelligent edge. Its mission is to empower every person and every organization on the planet to achieve more”. After researching and collecting data from June of 2018 I came to a calculation that the WACC for Microsoft is 8.05%.
Data used to calculate WACC.
To find the WACC I had to use the formula which is: rWACC = (E/E+D) rE + D/(E+D) rD (1-TC) as well as the formula ri= rf + βi * (RMkt-rf) for the required return on a given equity investment. From my understanding the E stands for (market value of equity), the D stands for (Book or market value of debt), E/(E+D) stands for the weight of equity, and D/(E+D) stands for the weight of debt. On the other hand, β is for equity beta and RMkt is for the market risk premium as for rf stands for the risk-free rate.
My formula with values substituted
I came to the conclusion of 8.05% as the WACC because I used the steps below;
The first step is to calculate the weights. To do this I used the market value of equity (E) which is $898,032.584 MIL., the book value of debt (D) which is $81,217MIL. And the weight of equity came to E/(E+D): $898032.584/ ($898032.584+$81217) which equals 0.9171. Alongside this the weight of debt is D/(E+D): $81217/ ($898032.584) + $81217) = 0.0829. The second step that I used is to determine the cost of equity. To determine this, I used the risk-free rate is 3.5% (I used the percentage given to me according to the assignment). As for β (beta) according to Microsoft corps’ the beta is 1.02 and the market risk premium according to my assignment is 5%. With that said the cost of equity is 3.5%+1.02*5%= 8.6%. The next step that I used is to discover the cost of debt. I used the total book value of debt (D) which is $81217MIL. And as of the date, June 2018 Microsoft’s interest expense was $2733MIL. In total, the cost of debt is 2733/81217=0.0336505 (rounded) came to a total of 3.3651% Last but not least the very last step that I used to figure out the companies WACC was to incorporate a corporate tax rate that is found in my assignment of 40%. So, the formula WACC equals E/(E+D) * the cost of equity + D/(E+D) * the cost of debt * (1-tax rate) translated into numbers comes out to 0.9171 * 8.6% + 0.0829 * 3.3651% * (1-40%) which gives a concluded number of 8.05%.
(GuruFocus.com, LLC, 2019).
My confidence in my answer to Microsoft’s WACC for June of the year 2018 using the WACC formula provided to me in week five’s assignment is great. I feel that by using the analysis and data that I conducted I was able to make the presumption of my given WACC. In conclusion, I found it interesting figuring out and comprehending the calculations of the weighted average cost of capital. References
CFI Education Inc. (2019). What is WACC, it’s formula, and why it’s used in corporate finance. Retrieved from https://corporatefinanceinstitute.com/resources/knowledge/finance/what-is-wacc-formula/
EDUCBA. (n.d.). 4 Innovative Methods to Calculate WACC (Resourceful). Retrieved from https://www.educba.com/wacc/
Financial Industry Regulatory Authority, Inc. (2019). Terms and Acronyms. Retrieved from http://www.finra.org/industry/terms-and-acronyms
GuruFocus.com, LLC. (2019). Microsoft Corp. Retrieved from https://www.gurufocus.com/stock/MSFT
GuruFocus.com, LLC. (n.d.). Microsoft Corp. Retrieved from https://www.gurufocus.com/stock/MSFT
Microsoft Corp. (2019). Facts About Microsoft. Retrieved from https://news.microsoft.com/facts-about-microsoft/
Microsoft Corporation. (2019). Annual Report 2018. Retrieved from https://www.microsoft.com/en-us/annualreports/ar2018/annualreport
Nasdaq.com. (2019). MSFT Company Financials. Retrieved from https://www.nasdaq.com/symbol/msft/financials?query=balance-sheet
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