Question

MG corporation has a target capital structure of 45 percent common stock, 10 percent preferred stock, and 45 percent debt. Its cost of equity is 17 percent, the cost of preferred stock is 6.5 percent, and the cost of debt is 9 percent (before taxes). The relevant tax rate is 35 percent. What is MGís WACC?

Answer 1

The WACC is 10.93%

Step-by-step explanation:

The WACC or weighted average cost of capital is the cost to firm of its capital structure. The capital structure of the firm consists of debt, preferred stock and common stock. The WACC is calculated by taking the sum of the weighted average cost of each component of the capital structure.

WACC = wD * rD * (1-tax rate) + wP * rP + wE * rE

Where,

• w represents the weight of each component as a proportion of total assets
• r represents the cost of each component
• We take the after tax cost of debt. So, rD is multiplied by (1-tax rate)

WACC = 0.45 * 0.09 * (1-0.35) + 0.1 * 0.065 + 0.45 * 0.17

WACC = 0.109325 or 10.9325% rounded off to 10.93%