Question

A company has a beta of 1.8, pre-tax cost of debt of 5.3% and an effective corporate tax rate of 28%. 34% of its capital structure is debt and the rest is equity. The current risk-free rate is 0.7% and the expected market risk premium is 5.8%. What is this company's weighted average cost of capital

Answer 1

the weighted average cost of capital is 8.65%

Step-by-step explanation:

The computation of the weighted average cost of capital is as follows:

But before that cost of equity could be determined which is

As we know that

Cost of Equity = Risk-free Rate + [Beta × Market risk premium]

= 0.7% + [1.8 × 5.8%]

= 11.14%

Now the weighted average cost of capital is

= Pre tax cost of debt × (1 - tax rate) × weight of debt + cost of equity × weight of equity

= 5.3% × (1 - 0.28) × 0.34 + 11.14% × (1 - 0.34)

= 1.30% + 7.35%

= 8.65%

Hence, the weighted average cost of capital is 8.65%