Question

The Bigelow Company has a cost of equity of 12 percent, a pre-tax cost of debt of 7 percent, and a tax rate of 35 percent.

What is the firm's weighted average cost of capital if the debt-equity ratio is .60?

A. 6.58 percent

B. 9.21 percent

C. 10.01 percent

D. 10.13 percent

E. 11.11 percent

Answer 1

B. 9.21 percent

Step-by-step explanation:

The formula to compute WACC is shown below:

= Weightage of debt × cost of debt × ( 1- tax rate) + (Weightage of common stock) × (cost of common stock)

where,

Weighted of debt = Debt ÷ total firm

The total firm includes debt, and the equity which equals to

= 0.60 + 1 = 1.60

So, Weighted of debt = (0.60 ÷ 1.60) =0.3 75

And, the weighted of common stock = (Common stock ÷ total firm)

= 1 ÷ 1.60

= 0.625

Now put these values to the above formula

So, the value would equal to

= (0.375 × 7%) × ( 1 - 35%) + (0.625 × 12%)

= 1.71% + 7.5%

= 9.21%