Question

A firm's cost of equity is 22%. Its before-tax cost of debt is 13% and its marginal tax rate is 21%. The firm's capital structure calls for a debt-to-equity ratio of 45%. Calculate the firm's cost of capital

Answer 1

Answer:

WACC= 17.95%

Explanation:

Weighted average cost of capital is the average cost of all of the long-term types of finance used by a company weighted according to the that amount of finance used in relation to the total pool of fund.

It is calculated using the formula below:

WACC = (We×Ke)  +  (Wd×Kd)

Ke-cost of equity- 22%

We- equity weight- 100% - 45% = 55%

Kd-After tax cost of debt-10.3%

Wd- 45%

After tax cost of debt = Before tax ×× (1- tax rate)

After tax cost of debt = 13%× (1-0.21) = 10.3%

Cost of equity = 22%

WACC =(0.55× 22%) + (0.45× 13%)=17.95%

WACC= 17.95%