Question

Weighted average cost of capital American​ Exploration, Inc., a natural gas​ producer, is trying to decide whether to revise its target capital structure. Currently it targets a 50​-50 mix of debt and​ equity, but it is considering a target capital structure with 70​% debt. American Exploration currently has 6​% ​after-tax cost of debt and a 12​% cost of common stock. The company does not have any preferred stock outstanding. What is American​ Explorations current​ WACC?

Answer 1

American​ Explorations current​ WACC is 9%

Step-by-step explanation:

The computation of WACC is shown below:

= (Cost of equity × equity percentage) + (after-tax cost of debt × debt percentage)

= (12% × 50%) + (6% × 50%)

= 6% + 3%

= 9%

Since we have to compute only current WACC so we considered the 50-50 ratio. Hence, we ignored 70% cost of debt

WACC shows a relationship between debt, equity and the preferred stock.