All else held constant, which one of these is most apt to decrease the average cost...
All else held constant, which one of these is most apt to decrease the average cost of capital (WACC) of a leveraged firm?
a) An increase in a market's average return
b) A decrease in the tax rate
c) An increase in the treasure rate when the firm's equity beta
> 1
d) An increase in the firm's risk and equity beta
Homework Answers
WACC is the average cost of equity and debt capital. Equity cost of capital can be given by the CAPM, ie Cost of Equity = Risk free rate + Equity Beta * ( Expected market return - Risk free rate)
When the risk free rate ie treasury rate increases, and if Beta>1, the cost of equity will reduce as the market risk premium decreases. Thus, WACC will reduce on reducing cost of equity
Answer is c) An increase in the treasure rate when the firm's equity beta > 1
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