TTC currently has common stock with a market value of $8 billion, along with their debt of $3.2 billion. Investors are anticipating a 15% return on stock, and a 5% return on debt. If TTC were to issue $3.2 billion of new stock in order to pay off the debt, what would be the anticipated return of the stock after this transaction? What would happen to the return on stock if the company were instead to take out $1 billion in debt to repurchase shares? Assume both transaction would occur in a perfect market. 5% 15% 8 3.2 1 0.925233645 0.074766355 Anticipated stock return after stock issuance to pay off debt: 14.25% Ru = [E/(E+D)]*Re + [D/(E+D)*Rd Page 504 Anticipated return after increase of debt to repurchase shares: 15.20% Re = Ru + [(D/E)*(Ru-Rd)] Page 504 For the scenarios above, TTC wants to evaluate their WACC on a pretax and after tax basis. The company has a tax rate of 35%. What will be the WACC for each situation outlined in the previous scenario? After stock issuance to pay off debt 15% 39.6 3.2 5% 35% Pre-Tax WACC Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd pg 532 After Tax WACC Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd*(1-tax rate) pg 532 After increase of debt to repurchase shares Pre-Tax WACC Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd pg 532 After Tax WACC Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd*(1-tax rate) pg 532