Question

1. Rosita's has a cost of equity of 13.76 percent and a pretax cost of debt of 8.5 percent. The debt-equity ratio is .60 and the tax rate is 34 percent.
   1. What is Rosita’s WACC if his debt to equity ratio is 0.3?

Answer 1

Levered cost of equity = Unlevered cost of equity+D/E*( Unlevered cost of equity-cost of debt)*(1-tax rate)

13.76 = Unlevered cost of equity+0.6*(Unlevered cost of equity-8.5)*(1-0.34)

Unlevered cost of equity = 12.27

Levered cost of equity = Unlevered cost of equity+D/E*( Unlevered cost of equity-cost of debt)*(1-tax rate)

Levered cost of equity = 12.27+0.3*(12.27-8.5)*(1-0.34)

Levered cost of equity = 13.02

D/A = D/(E+D)

D/A = 0.3/(1+0.3)

=0.2308

Weight of equity = 1-D/A

Weight of equity = 1-0.2308

W(E)=0.7692

Weight of debt = D/A

Weight of debt = 0.2308

W(D)=0.2308

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

After tax cost of debt = 8.5*(1-0.34)

= 5.61

WACC=after tax cost of debt*W(D)+cost of equity*W(E)

WACC=5.61*0.2308+13.02*0.7692

WACC =11.31%