Question

Assume the corporate tax view of capital structure. Your unleveraged cost of capital is 13%. Your corporate tax rate is 30%. Your firm proposes to borrow $800 and its leveraged firm value is $1,600. What is your cost of capital under the proposed leveraging?
A. 12.06%
B. 10.03%
C. 11.05%
D. 11.33%

Answer 1

Answer:

C. 11.05%

Explanation:

The computation of the cost of capital under the proposed leveraging is shown below;

cost of capital is

=Debt÷ value of leverged firm × ((unlevered cost of capital × (1 - tax rate))

=800 ÷ 1600 × ((13% + (13%) × (1 - 30%)))

= 11.0500%

hence, the cost of capital is 11.05%