Question
Predator Ltd. is contemplating expanding its operations into the computer software industry from its base operations in logistical services. The CFO, Rilla Rankin, realizes that
Predator Ltd. is contemplating expanding its operations into the computer software industry from its base operations in logistical services. The CFO, Rilla Rankin, realizes that this new industry is more cyclical than their current operations, but the company feels this expansion is still in its best interests. Instead of using Predators current WACC, Rankin has decided to estimate a WACC that is more reflective of the software industry. A pure play with a similar capital structure was found. This companys common shares have a beta of 1.7, while its preferred shares have a beta of 0.9. It recently negotiated a 10-year term loan with an interest rate of 9 percent, compounded semi-annually. Based on a worst-case scenario, Predator Ltd. has decided to maintain a capital structure of 50 percent common equity, 10 percent preferred shares, and 40 percent debt. The market risk premium is 5 percent and the risk-free rate is 4 percent. The marginal tax rate is 25%. REQUIRED: 1. Calculate an appropriate WACC for analyzing the expansion.
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