Reference no: EM133305553

Mr. Jones, The CFO of Baylee's Enterprises (BE) is anticipating further interest rate increases in the near future. To lock in the currently somewhat lower rates, Mr. Jones is proposing to adjust the capital structure of BE by issuing new bonds and using the proceeds to repurchase some of its stock. BE currently has 140,000 bonds outstanding with a $1,000 face value, 5 years to maturity, and 4% coupon rate (annual payment). The bonds are currently trading at $950. In addition, BE has 5 million shares issued and outstanding. They are currently trading at $40 per share. BE also has $60,000,000 in preferred stock financing, which pays a 10% dividend. Mr. Jones is proposing to issue 40,000 new bonds with a 10 year term-to-maturity. Assume the following facts:

(1) the current yield on 10 year Treasuries is 4% , (2) BE's tax rate is 20%, (3) BE's asset beta is 1.2, (4) market risk premium is 6%; (5) BE will set the coupon rate on its new debt so that it sells at par; (5) BE estimates investors to require 7% yield on its new bonds, and (6) its stock price moves to $41 per share after announcement of the new debt issue. Given this information, estimate BE's current WACC and expected WACC. Is this restructuring a good idea? List the relevant pros and cons and draw your conclusion.