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WACC for Pettit Printing Company

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November 14th, 2022

Pettit printing Company has a total market value of $100 million, consisting of 1 million shares selling for $50 per share and $50 million of 10% perpetual bonds now selling at par value. The firm’s EBIT is $13.24 million, and its tax rate is 15%. Pettit can change its capital structure by either increasing its debt to 70% (based on market values) or decreasing it to 30%. If it decides to increase its use of financial leverage, it must call its old bonds and issue new ones with a 12% coupon. If it decides to decrease its financial leverage, it will call in its old bonds and replace them with new 8% coupon bonds. The firm will sell or repurchase stock at its new equilibrium price to complete the capital structure change.

The firm pays out all earnings as dividends; hence, its stock is zero growth stock. Its current cost of equity, rs, is 14%. If it increases financial leverage, rs will be 16%. If it decreases financial leverage, rs will be 13%.

Calculate the firm’s WACC and total corporate value under each capital structure.

Please show all work and explain fully.

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