Question

Navarro Corporation has no debt but can borrow at 6.6 percent. The firm’s WACC is currently 8.8 percent and the tax rate is 24 percent.

a. What is the company’s cost of equity? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
b. If the firm converts to 35 percent debt, what will its cost of equity be? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
c. If the firm converts to 60 percent debt, what will its cost of equity be? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
d-1. If the firm converts to 35 percent debt, what is the company’s WACC? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
d-2. If the firm converts to 60 percent debt, what is the company’s WACC? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Answer 1

The question targets complex financial concepts such as cost of equity and the WACC of Navarro Corporation when considering changes in its capital structure. Precise calculations cannot be provided due to insufficient information, but the general impact of debt on cost of equity and WACC can be conceptually explained.

Step-by-step explanation:

The main question posed seems to revolve around the financial concepts of the cost of capital for a firm - particularly the cost of equity, the weighted average cost of capital (WACC), and the tax implications on these when the firm's capital structure changes. Specifically, it concerns how the cost of equity and the overall WACC would be affected if Navarro Corporation, which is currently not in debt, chooses to take on debt.

The question includes calculations for varying debt levels, and these would typically employ the Modigliani-Miller theorem and capitalize on the corporate tax shield that debt provides. Unfortunately, the information provided is insufficient to complete the exact calculations, as the actual equity of the company is needed as well as other details. However, generally, as a firm takes on debt, its cost of equity typically increases due to the increased risk, while the WACC might decrease initially because of the tax shield provided by debt.