Answer:
7.13%
Explanation:
WACC is the average cost of capital of the firm based on the weightage of the debt and weightage of the equity multiplied to their respective costs.
Formula for WACC
Weighted Average Cost of Capital = (Cost of Equity x Weightage of equity) + (Cost of preferred Stock x Weightage of preferred Stock ) + (Cost of Debt (1 -t) x Weightage of Debt)
Weightage
Total Value = $7 billion + $4 billion + $10 billion = $21 billion
Equity = $7 billion / $21 billion
Preferred = $4 billion / $21 billion
Debt = $10 billion / $21 billion
Cost of Equity :
We can calculate cost of equity using CAPM
Capital asset pricing model measure the expected return on an asset or investment. it is used to make decision for addition of specific investment in a well diversified portfolio.
Formula for CAPM
Cost of Equity = Risk free rate + beta ( market return - risk free rate )
Cost of Equity = Rf + β ( Rm - Rf )
Cost of Equity = 4% + 1.4 ( 6% )
Cost of Equity = 12.4%
Cost of Preferred stock = $3/$100 = 3% (assuming the preferred stock par value is $100)
Cost of Debt = 8.5%
Placing values in the formula
Weighted Average Cost of Capital = (12.4% x $7 billion / $21 billion) + (3% x $4 billion / $21 billion ) + (8.5% (1 - 0.4) x $10 billion / $21 billion)
Weighted Average Cost of Capital = 4.13% + 0.57% + 2.43% = 7.13%
