Question

5. What is the weighted average cost of capital for a corporation that finances an expansion (1.40) project using 30% retained earnings and 70% venture cap-ital? Assume the interest rates are 8% for the equity financing and 13% for the debt financing.

Answer 1

weight of retained earnings (W_R) = 30%

weight of venture financing (W_V) = 70%

given that,

cost of equity financing (K_e) = 8%

cost of debt financing (K_d) = 13%

weighted average cost of capital (WACC) = (K_e * W_R) + (K_d * W_V)

(it is assumed that venture capital is debt financing)

weighted average cost of capital (WACC) = (8% * 0.3) + (13% * 0.7)

weighted average cost of capital (WACC) = 2.4% + 9.1%

weighted average cost of capital (WACC) = 11.5%