Question

The market value of Charter Cruise Company's equity is $15 million and the market value of its debt is $5 million. If the required rate of return on the equity is 20 percent and that on its debt is 8 percent, calculate the company's cost of capita

Answer 1

17%

Step-by-step explanation:

To calculate this, we use the weighted average cost of capital (WACC) as follows:

Total capital = 15 + 5 = 20

Weight of equity = 15/20 = 0.75, or 75%

Weight of debt = 5/20 = 0.25, or 25%

WACC = (20% × 75%) + (8% × 25%) = 17%

Therefore, the company's cost of capital is 17%.

Answer 2

17%

Step-by-step explanation:

The weighted average cost of capital (WACC) can be defined as a financial ratio that calculates an organization cost of financing and getting various assets. This is done by comparing the debt and equity structure of the business.

The formular is represented as:

WACC= E/V × Re + D/V × Rd × (1-Tc)

Where,

-E which is the market value total equity is $15million

-V which is the total market value of the company’s combined debt and equity E + D = $15 million + $5 million= $20million

- Re which is the total cost of equity is 20/100=0.2

- D which is the market value of total sent is $5million

- Rd which is the total cost of debt is =8/100 = 0.08

- Tc which is the income tax rate is 0

Therefore,

WACC= 15/20 ×0.2 +5/20 × 0.08 × (1-0)

=0.75×0.2 + 0.25×0.08×1

=0.15 + 0.02

= 0.17

= 0.17×100

= 17

Thus, the company's cost of capital is 17%