Question

WACC. The common stock of Buildwell Conservation \& Construction Inc. (BCCI) has a beta of 9 . The Treasury bill rate is 4%, and the market risk premium is estimated at 8%. BCCl 's capital structure is 30% debt, paying a 5% interest rate, and 70% equity. Buildwell pays tax at 21%. (LOI3-I)

1. What is BCCI's cost of equity capital?
2. What is its WACC?

Answer 1

BCCI's cost of equity capital is 76%, calculated using the Capital Asset Pricing Model (CAPM). Its WACC is found to be 54.685% when incorporating the company's capital structure and tax rate.

Step-by-step explanation:

WACC and Cost of Equity Calculation

To calculate BCCI's cost of equity capital, we can use the Capital Asset Pricing Model (CAPM). CAPM formula is given by:

Cost of Equity = Risk-Free Rate + (Beta × Market Risk Premium)

Substituting the given values, we get:

Cost of Equity = 4% + (9 × 8%) = 4% + 72% = 76%

To calculate the Weighted Average Cost of Capital (WACC), we use the formula:

WACC = (E/V × Cost of Equity) + ((D/V × Cost of Debt) × (1 - Tax Rate))

Where E is the market value of the equity, D is the market value of the debt, V is the total market value of the company (E + D), and Tax Rate is the corporate tax rate.

Substituting the values for BCCI, we have:

WACC = (0.70 × 76%) + (0.30 × 5% × (1 - 0.21))

WACC = 53.2% + (1.485%) = 54.685%