Question

Sixx AM Manufacturing has a target debt—equity ratio of 0.55. Its cost of equity is 16 percent, and its cost of debt is 10 percent. If the tax rate is 33 percent, what is the company's WACC?

Answer 1

Answer:

WACC = Ke(E/V) + Kd(D/V)(1-T)

WACC = 16(100/155) + 10(55/155)(1-0.33)

WACC = 10.3226 + 2.3774

WACC = 12.7%

Explanation:

WACC is a function of cost of equity and proportion of equity in the capital structure  plus after-tax cost of debt and proportion of debt in the capital structure. Since debt-equity ratio is 0.55(55/100), it implies that the total value of the firm is 55 + 100 = 155. Thus, debt proportion will be 55/155 while equity proportion is 100/155.