Question

Rumolt Motors has 22 million shares outstanding with a share price of $ 48 per share. In​ addition, Rumolt has issued bonds with a total current market value of $ 1 comma 168 million. Suppose​ Rumolt's equity cost of capital is 14 %​, and its debt cost of capital is 11 %. a. What is​ Rumolt's pre-tax​ WACC? b. If​ Rumolt's corporate tax rate is 40 %​, what is its​ after-tax WACC? a. What is​ Rumolt's pre-tax​ WACC?

Answer 1

Rumolt's pre-tax​ WACC = 12.4244

After-tax WACC = 10.11

Step-by-step explanation:

Equity value =22million * $48 per share =1056

Value of debt = $1168

Equity cost = 14 %

Dept cost = 11 %

Tax rate =40%

Total Capital value = Value of Equity + Value of Debt

=1168+1056

=$2224

Weight of Equity = Value of Equity/Total Capital Value

=1056/ 2224

=0.4748

Weight of Debt = Value of Debt/Total Capital Value

=1168/ 2224

=0.5252

Cost of Capital =

Weight of Equity*Cost of Equity+Weight of Debt*Cost of Debt

Cost of Capital = 0.4748 *14 + 0.5252* 11

= 12.4244

Rumolt's pre-tax​ WACC = 12.4244

(b):

After tax cost of debt =debt cost*(1-tax rate)

= 11*(1-0.4)=6.6%

After tax Cost of Capital = Weight of Equity* After tax Cost of Equity+ Weight of Debt* After tax Cost of Debt

After tax Cost of Capital = 0.4748 *14 + 0.5252* 6.6

After-tax WACC = 10.11

Answer 2

pre-tax WACC is 12.43%

Step-by-step explanation:

pre-tax WACC=E/V*ke+D/V*kd

E is the market value of equity which is 22 million*48=$1,056 million

D is the value of debt which $1,168 million

V is the total finance of debt and equity available at Rumolt Motors' disposal which is calculated as =$1,056 million+ $1,168 million=$ 2,224 million.

ke is the cost of equity given as 14%

kd is the cost of debt which is provided as 11%

The part of the formula that deals with tax is not included as the requirement is pre-tax weighted average cost of capital

pre-tax WACC=1056/2224*14%+1168/2224*11%

pre-tax WACC=12.43%

The pre-tax WACC Iis 12.43%