Question

Triangle enterprises has no debt but can borrow at 8 percent. the firm's wacc is currently 13.2 percent, and there is no corporate tax. if the firm converts to 30 percent debt, what will its cost of equity be? 16.67 percent 12.95 percent 14.47 percent 16.39 percent 15.43 percent

Answer 1

To solve this problem, we should recall that the formula for Weighted Average Cost of Capital (WACC) is:

 

WACC = (E / V) * Re + (D / V) * Rd * (1 – Tc)

 

Where,

WACC = 0.132

E / V = percentage of financing or percentage of equity = 1 – percent debt = 1 – 0.3 = 0.7

Re = the cost of equity (unknown)

D / V = percentage of debt = 0.3

Rd = cost of debt

1 - Tc = corporate borrow rate = 0.08

 

Therefore substituting all given values into the WACC equation:

0.132 = 0.7 * Re + 0.3 * 0.08

Re = 0.1543

 

Answer:

The cost of equity Re is 0.1543 or 15.43%.