CASE STUDY: Weighted Average Cost of Capital and Cost of Equity

From the information in these charts, please help me to calculate the cost of equity, ROA, and WACC for each capital structure: 30%, 50%, and 70%.

We were given the following formulas in class, however I don't know how to use them or what to do or where to start:

Exhibit 2 Comparison Data for American Home Products and Warner-Lambert, 1980 ($ in millions except per share and ratio data) American Home Products Corporation Warner- Lambert Company Sales 5-year compound annual growth rate Profit after tax 5-year compound annual growth rate! Cash and equivalents Accounts receivable Inventory Net property, plant and equipment Other Total assets Total debt Net worth Earnings per share 5-year compound annual growth rate Dividends per share 5-year compound annual growth rate Stock price (end of 1980) Price/earnings ratio Profit margin (profit after tax/sales) Return on equity Interest coverage Ratio of total debt to total capital Bond rating $3,798.5 11.0% $445.9 12.2% $593.3 517.3 557.3 450.5 251.9 2,370.3 13.9 $1,472.8 $2.84 12.4% $1.70 13.6% $30 10.6 11.7% 30.3% 436.6% .9% AAA $3,479.2 9.9% $192.7 3,3% $360.3 541.5 645.8 B27.1 582.5 2.957.2 710.1 $1,482.7 $2.41 3.0% $1.32 8.0% $20 8.3 5.5% 13.0% 5.0X 32.4% AAAAA Wamer-Lambert's debt was rated triple A but analysts felt the firm was close to being downgraded to double A Exhibit 3 Pro Forma 1981 Results for Alternative Capital Structures ($ in millions except per share data) Actual 1981 Pro Forma 1981 for 30% Debt to 50% Debt to 70% Debt to Total Capital Total Capital Total Capital $4,1312 $4,131.2 $4,131.2 $4,131.2 954.8 2.3 952.5 455.2 497.3 922.2 52.7 869.5 417.4 452.1 922.2 87.8 834.4 400.5 433.9 922.2. 122.9 799.3 383.7 415.6 Sales Earnings before interest and taxes Interest Profit before taxes Taxes Profit after tax Dividends on preferred stock Earnings available to common shareholders Dividends on common stock Average common shares outstanding (millions) Earnings per share Dividends per share 496.9 451.7 433.5 415.2 $295.3 $271.0 $260.1 $249.1 155.5 $3.18 $1.90 135.7 $3.33 $2.00 127.3 $3.41 $2.04 118.9 $3.49 $2.10 Beginning of Year Beginning of Year after Recapitalization $593.3 13.9 $1,472.8 $30 $360.3 376.1 $877.6 Cash and equivalents Total debt Net worth Common stock price Aggregate market value of common stock $360.3 626.8 $626.9 $360.3 877.6 $376.1 $4,665.0 a EBIT is reduced in pro forma results due to the loss of interest income from the $233 million in excess cash used to repurchase stock Detailed Assumptions for Pro Forma Recapitalizations Presented in Exhibit 3 Exhibit 4 Detailed Assumptions for Pro Forma Debt is assumed to be added to the capital structure by issuing dded to the capital structure by issuing debt and using the popurchase common stock. All purchases are assumed to be executed in proceeds to repurchase common stoc January 1981. med to be repurchased at a price of $30 per share, which was the prevailine stock price in early January 1981. 3. The minimum cash balance is assumed to inimum cash balance is assumed to be $360.3 million (equal to Wamer-Lambert's 1980 cash balance); thus $233 million in excess cash is available for use in renurchasing stock. 4. A tax rate of 48% is used. 5. The common dividend payout ratio is 60% 6. Interest rate on all debt in all recapitalizations is assumed to be 14% before tax. 7 Interest forgone on excess cash is assumed to be at a rate of 14% before tax, so with recapitalization EBIT falls by .14 times excess cash of $233 million, or $32.6 million The pro forma EBIT is $922.2 million (actual EBIT of $954.8 million minus $32.6 million reduction in interest from excess cash). 8. Details of recapitalizations are ($ millions): 30% Debt Ratio $233.0 362.2 $595.2 50% Debt Ratio $233.0 612.9 $845.9 70% Debt Ratio $233.0 863.7 Excess cash Additional debt Total repurchase Reduction in common shares outstanding (millions of shares) $1,096.7 19.8 28.2 36.6 Exhibiti Selected Financial Data for American Home Products Corporation, 1972-1981 ($ in millions except per share and ratio data) 1981 1980 1979 1978 1977 1975 1974 1973 1972 $2,258.6 $2,048.7 $1,784.4 $1,587.1 Sales Cash Total debt Net worth Total assets Net Income Earnings per share Dividends per share $4,131.2 729.1 16.6 1,654.5 2,588.5 497.3 3.18 $1.90 $3,798.5 593.3 13.9 1,472.8 2,370.3 445.9 2.84 $1.70 $3,406.3 493.8 10.3 1,322.0 2,090.7 396.0 2.51 $1.50 $3,062.6 436.6 13.7 1,178.0 1,862.2 348.4 2.21 $1.325 $2,685.1 322.9 10.3 1,035.3 1,611.3 306.2 1.94 $1.15 1976 $2,471.7 358.8 7.8 991.5 1,510.9 277.9 1.75 $1.00 1 1,390.7 250.7 1.58 $.90 1,241.6 255.6 1.42 $.777 1,126. 0 199.2 1.25 $.625 ,042.0 172.7 1.08 $.59 14.1% 13.9 8.6% 10.9 9.4% 10.8 57.1 11.7% 13.1 60.0 11.7 30.3% 8.8% 12.0 59.7 12.0 30.1% 11.1% 13.6 59.8 11.6 30.0% Annual growth in sales Annual growth in EPS Dividend payout ratio After-tax profit margin Return on equity 54.6% 60.0 59.3 10.2% 11.3 57.0 11.1 27.9% 14.8% 13.6 54.7 11.0 28.2% 12.4% 15.7 50.0 11.2 28.2% 11.2 10.9 11.4 29.6% 11.4 29.5% 28.0% 25.9% Exhibit 2 Comparison Data for American Home Products and Warner-Lambert, 1980 ($ in millions except per share and ratio data) American Home Products Corporation Warner- Lambert Company Sales 5-year compound annual growth rate Profit after tax 5-year compound annual growth rate! Cash and equivalents Accounts receivable Inventory Net property, plant and equipment Other Total assets Total debt Net worth Earnings per share 5-year compound annual growth rate Dividends per share 5-year compound annual growth rate Stock price (end of 1980) Price/earnings ratio Profit margin (profit after tax/sales) Return on equity Interest coverage Ratio of total debt to total capital Bond rating $3,798.5 11.0% $445.9 12.2% $593.3 517.3 557.3 450.5 251.9 2,370.3 13.9 $1,472.8 $2.84 12.4% $1.70 13.6% $30 10.6 11.7% 30.3% 436.6% .9% AAA $3,479.2 9.9% $192.7 3,3% $360.3 541.5 645.8 B27.1 582.5 2.957.2 710.1 $1,482.7 $2.41 3.0% $1.32 8.0% $20 8.3 5.5% 13.0% 5.0X 32.4% AAAAA Wamer-Lambert's debt was rated triple A but analysts felt the firm was close to being downgraded to double A Exhibit 3 Pro Forma 1981 Results for Alternative Capital Structures ($ in millions except per share data) Actual 1981 Pro Forma 1981 for 30% Debt to 50% Debt to 70% Debt to Total Capital Total Capital Total Capital $4,1312 $4,131.2 $4,131.2 $4,131.2 954.8 2.3 952.5 455.2 497.3 922.2 52.7 869.5 417.4 452.1 922.2 87.8 834.4 400.5 433.9 922.2. 122.9 799.3 383.7 415.6 Sales Earnings before interest and taxes Interest Profit before taxes Taxes Profit after tax Dividends on preferred stock Earnings available to common shareholders Dividends on common stock Average common shares outstanding (millions) Earnings per share Dividends per share 496.9 451.7 433.5 415.2 $295.3 $271.0 $260.1 $249.1 155.5 $3.18 $1.90 135.7 $3.33 $2.00 127.3 $3.41 $2.04 118.9 $3.49 $2.10 Beginning of Year Beginning of Year after Recapitalization $593.3 13.9 $1,472.8 $30 $360.3 376.1 $877.6 Cash and equivalents Total debt Net worth Common stock price Aggregate market value of common stock $360.3 626.8 $626.9 $360.3 877.6 $376.1 $4,665.0 a EBIT is reduced in pro forma results due to the loss of interest income from the $233 million in excess cash used to repurchase stock Detailed Assumptions for Pro Forma Recapitalizations Presented in Exhibit 3 Exhibit 4 Detailed Assumptions for Pro Forma Debt is assumed to be added to the capital structure by issuing dded to the capital structure by issuing debt and using the popurchase common stock. All purchases are assumed to be executed in proceeds to repurchase common stoc January 1981. med to be repurchased at a price of $30 per share, which was the prevailine stock price in early January 1981. 3. The minimum cash balance is assumed to inimum cash balance is assumed to be $360.3 million (equal to Wamer-Lambert's 1980 cash balance); thus $233 million in excess cash is available for use in renurchasing stock. 4. A tax rate of 48% is used. 5. The common dividend payout ratio is 60% 6. Interest rate on all debt in all recapitalizations is assumed to be 14% before tax. 7 Interest forgone on excess cash is assumed to be at a rate of 14% before tax, so with recapitalization EBIT falls by .14 times excess cash of $233 million, or $32.6 million The pro forma EBIT is $922.2 million (actual EBIT of $954.8 million minus $32.6 million reduction in interest from excess cash). 8. Details of recapitalizations are ($ millions): 30% Debt Ratio $233.0 362.2 $595.2 50% Debt Ratio $233.0 612.9 $845.9 70% Debt Ratio $233.0 863.7 Excess cash Additional debt Total repurchase Reduction in common shares outstanding (millions of shares) $1,096.7 19.8 28.2 36.6 Exhibiti Selected Financial Data for American Home Products Corporation, 1972-1981 ($ in millions except per share and ratio data) 1981 1980 1979 1978 1977 1975 1974 1973 1972 $2,258.6 $2,048.7 $1,784.4 $1,587.1 Sales Cash Total debt Net worth Total assets Net Income Earnings per share Dividends per share $4,131.2 729.1 16.6 1,654.5 2,588.5 497.3 3.18 $1.90 $3,798.5 593.3 13.9 1,472.8 2,370.3 445.9 2.84 $1.70 $3,406.3 493.8 10.3 1,322.0 2,090.7 396.0 2.51 $1.50 $3,062.6 436.6 13.7 1,178.0 1,862.2 348.4 2.21 $1.325 $2,685.1 322.9 10.3 1,035.3 1,611.3 306.2 1.94 $1.15 1976 $2,471.7 358.8 7.8 991.5 1,510.9 277.9 1.75 $1.00 1 1,390.7 250.7 1.58 $.90 1,241.6 255.6 1.42 $.777 1,126. 0 199.2 1.25 $.625 ,042.0 172.7 1.08 $.59 14.1% 13.9 8.6% 10.9 9.4% 10.8 57.1 11.7% 13.1 60.0 11.7 30.3% 8.8% 12.0 59.7 12.0 30.1% 11.1% 13.6 59.8 11.6 30.0% Annual growth in sales Annual growth in EPS Dividend payout ratio After-tax profit margin Return on equity 54.6% 60.0 59.3 10.2% 11.3 57.0 11.1 27.9% 14.8% 13.6 54.7 11.0 28.2% 12.4% 15.7 50.0 11.2 28.2% 11.2 10.9 11.4 29.6% 11.4 29.5% 28.0% 25.9%