Assuming that you are comfortable with the basic WACC examples, let us take a practical example to calculate the WACC of Starbucks. Please note that Starbucks has no preferred shares and hence, the WACC formula to be used is as follows –
WACC Formula = E/V * Ke + D/V * Kd * (1 – Tax Rate)
Step 1 –Find theMarket Value of Equity
Market Value of Equity = Number of shares outstanding x current price.
The market value of equity is also market capitalization. Let us look at the total number of shares of Starbucks –
source: Starbucks SEC Filings
- As we can see from above, the total number of outstanding shares is 1455.4 million
- Current Price of Starbucks (as of the close of December 13, 2016) = 59.31
- Market Value of Equity = 1455.4 x 59.31 = $86,319.8 million
Step 2–Find theMarket Value ofDebt
Let us look at the balance sheet of Starbucks below. As of FY2016, the book value of debt is current.
As of FY2016, book value of Debt is the current portion of long-term debt ($400) + Long Term Debt ($3202.2) = $3602.2 million.
source: Starbucks SEC Filings
However, when we further read about Starbucks debt, we are additionally provided with the following information –
source: Starbucks SEC Filings
As we note above, Starbucks provides the fair value of the Debt ($3814 million) as well as the book value of debt. Therefore, in this case, it is prudent to take the fair value of debt as a proxy for the market value of debt.
Step 3 – Find the Cost of Equity
As we saw earlier, we use the CAPM model to find the cost of equity.
Ke = Rf + (Rm – Rf) x Beta
Risk-Free Rate
Here, I have considered a 10-year Treasury Rate as the Risk-free rate. However, some analysts also take a 5-year treasury rate as the risk-free rate. Please check with your research analyst before taking a call on this.
source – bankrate.com
Equity Risk Premium (Rm – Rf)
Each country has a different Equity Risk Premium. Equity Risk Premium primarily denotes the premium expected by the Equity Investor.
For theUnited States, Equity Risk Premium is 6.25%.
source – stern.nyu.edu
Beta
Let us now look at Starbucks Beta Trends over the past few years. The beta of Starbucks has decreased over the past five years. This means that Starbucks stocks are less volatile as compared to the stock market.
We note that the Beta of Starbucks is at 0.805x
With this, we have all the necessary information to calculate the cost of equity.
Cost of Equity = Ke = Rf + (Rm – Rf) x Beta
Ke = 2.47% + 6.25% x 0.805
Cost of Equity = 7.50%
Step 4 – Find the Cost of Debt
Let us revisit the table we used for the fair value of debt. We are additionally provided with its stated interest rate.
Using the interest rate and fair value, we can find the weighted average interest rate of the total fair value of Debt ($3,814 million)
Effective Interest Rate = $103.631/$3,814 = 2.72%
Step 5 – Find the Tax Rate
We can easily find the effective tax rate from the Income Statement of Starbucks.
Please see below the snapshot of its income statement.
For FY2016, Effective tax rate = $1,379.7 / $4,198.6 = 32.9%
Step 6 – Calculate the weighted average cost of capital (WACC) of Starbucks
We have collected all the information that is needed to calculate WACC.
- Market Value of Equity =$86,319.8 million
- Market Value of Debt (Fair Value of Debt) =$3814 million
- Cost of Equity =7.50%
- Cost of Debt = 2.72%
- Tax rate = 32.9%
WACC Formula = E/V * Ke + D/V * Kd * (1 – Tax Rate)
= (86,319.8/90133.8) x 7.50% + (3814/90133.8) x 2.72% x (1-0.329)
= 7.26%
