Mead Corporation Harvard Case Solution & Analysis

Question No. 1

Cost of Debt

Cost of Debt is the rate that an organization pays to other financial institutions and companies on the debt that it has borrowed from them. The debt can be in any form, for example, it can be a loan that the company has bought, or bond, or any other form of debt. We have calculated the cost of debt after subtracting the tax amount from it as the interest payments are subjected to tax deductibles usually.

In simple words, cost of debt is the yield to maturity on loans and bonds.

As it can be seen in the formula of WACC, cost of debt is multiplied with (1-tax rate). This represents the exact thing that we have mentioned above, i.e. after tax cost of debt. But, here in this question, we will just determine the cost of debt which equals to 6.3 percent as mentioned in the case study.

Mead Corporation Harvard Case Solution & Analysis

Question No. 2

Weight of Equity and Weight of Debt

The Weights of Equity and Debt are calculated by considering the book value of both equity and debt. In the calculation of WACC, though, it is ideal to use the market values of equity and debt, but, as we are not provided with the market values of equity and debt, i.e. the current share price, etc. is not provided to compute the market values of both equity and debt, thus, we have used the book value for the calculation of Weights of Equity and Debt in the WACC computation. As, after the market values, the book value is considered as a good alternative.

The book value of equity is computed after taking the amounts of all the equity that the company holds and is shown in in its balance sheet. This includes common shares, additional paid-in capital, retained earnings and foreign currency translation adjustment. We have summed all of these amounts to determine the overall book value of the equity, which is equal to 1531.3.

For the book value of debt, we have taken the sum of current liabilities and long term liabilities, which gives us the value of 1949.8.

For the computation of Weights of Equity and Debt, we summed the book values of both, which gives us the overall book value of the company and then we divided each book value with the total book value of the company, i.e. the book value of equity is divided with the total book value for the computation of weight of equity and the book value of debt is divided with the total book value for the computation of the weight of debt.

The weight if equity is 0.439 and that of debt is 0.560.

Question No. 3

Tax Rate

The tax rate that Miss Harris should use in the calculation of WACC is 38%.

The tax rate is the percentage of tax that the company pays on the income that it has earned in the specific time period.

As in the US, different portions of incomes are deductible to different tax rates. These tax rates are called marginal tax rates..........

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