Question

points The CFO of your firm estimates the risk-free rate to be 1.70%, credit risk premium to be 2.40%, the domestic beta to be 1.01, and the international beta to be. The company's ca structure is now 32% debt. The current yield on outstanding bonds is 5.00%. The corporate tax rate is 30%. The expected market return of a well diversified domestic investors 8.70 The expected market return of a well-diversified international investor is 7.70%. Using ICAPM, what is the firm's weighted average cost of capital Show wil work and round your inner to two decimal places TTT Arial 3 (12 • T --

Answer 1

Solution:

Calculation of firm's weighted average cost of capital(WACC)

We shall use data regarding domestic market instead of international market:

a)Cost of equity(Ke)

Ke=Risk free rate+Domestic Beta(Market rate of return-Risk free rate of return)

=1.70%+1.01(8.70%-1.70%)

=8.77%

b)After tax cost of debt(Kd)

Kd=Yield(1-tax rate)

=5%(1-0.30)

=3.5%

c)Weight of debt(Wd)=32% or 0.32

Weight of equity(We)=1-Weight of debt

=1-0.32=0.68

d)WACC

=Ke*We+Kd*Wd

=8.77%*0.68+3.5%*0.32

=7.084% or 7.08%