Question

A company has outstanding debt with a market value of​ $250M and common stock with a market value of​ $550M. If its debt has a​ before-tax cost of​ 7%, a​ before-tax cost of equity of​ 10% and a corporate tax rate of​ 40%, what is its​ WACC? A. ​8.19% B. ​6.55% C. ​7.86% D. ​5.44%

Answer 1

A. ​8.19%

Step-by-step explanation:

D 250

E 550

V 800

`WACC = K_e((E)/(E+D)) + K_d(1-t)((D)/(E+D))`

Ke 0.1

Equity weight 0.6875 (550/800)

Kd 0.07

Debt Weight 0.3125 (250/800)

t 0.4

`WACC = 0.1(0.6875) + 0.07(1-0.4)(0.3125)`

WACC 8.18750% = 8.19

The taxes doesn't affect the cost of equity. The equity doesn't provide a tax shield like debt. Taxes don't decrease the cost of equity.