Question

Pincrof Corporation has a current WACC of 6% at its target debt/assets ratio of 40% which...

Pincrof Corporation has a current WACC of 6% at its target debt/assets ratio of 40% which is continuously adjusted. Pincrof plans to increase its target debt/assets ratio to 70% which would increase the cost of debt by 200 basis points (=+2%) p.a. to 4% p.a. We know that the corporate tax rate is 20%, the estimated market risk premium 5% and the risk-free rate 1% p.a. Pincrof's unlevered equity beta is

a. 1,032 b. 0,688 c. 0,752 d. 0,924

Homework Answers

Answer #1

Solution:

WACC = Weight of equity * cost of equity + weight of debt * cost of debt

Debt / Asset = 40%, Equity / Asset = 1- 40% = 60%

D/E = 4/6 = 0.6667

Initial after tax cost of debt = 2% * (1-0.2) = 1.6%

6%= 0.6 * cost of equity + 0.4 * 1.6%

Cost of equity = (6% -0.64% ) / 0.6 = 8.9333%

According to CAPM

Cost of equity =Risk free rate + Beta * Market risk premium

8.9333% = 1% + Beta * 5%

Beta = 7.933333% / 5% = 1.5866

Levered beta = Unlevered beta ( 1 +D/E * (1-tax))

1.5866 = Unlevered beta * ( 1 +0.6667 * 0.8)

Unlevered beta = 1.586 / 1.5334 = 1.034

Correct option is A ) 1.032

Know the answer?
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Not the answer you're looking for?
Ask your own homework help question
Similar Questions
Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent...
Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent preferred stock, and 60 percent common equity. Rollins' beta is 1.6 , the risk-free rate is 4 percent, and the market risk premium is 5 percent. Rollins is a constant-growth firm which just paid a dividend of $2.00, sells for $30 per share, and has a growth rate of 5 percent. The firm's policy is to use a risk premium of 5 percentage points...
Tulip, Inc., has a target debt—equity ratio of 1. Its WACC is 8 percent, and the...
Tulip, Inc., has a target debt—equity ratio of 1. Its WACC is 8 percent, and the tax rate is 35 percent. If you know that the pre-tax cost of debt is 6.0 percent, what is the cost of equity?
Dee’s Toys has a target debt-total assets ratio of 28 %. Its WACC is 12.7 percent...
Dee’s Toys has a target debt-total assets ratio of 28 %. Its WACC is 12.7 percent and the tax rate is 26 percent. What is the cost of equity if the after tax cost of debt is 4.6 percent? Show your answer to the nearest .1%. Do now use the % sign in your answer. Thus an answer of 10.1% would be shown at 10.1 rather than 10.1% or .101.
Kose, Inc. has a target debt-equity ratio of 0.38. Its WACC is 10.1% and the tax...
Kose, Inc. has a target debt-equity ratio of 0.38. Its WACC is 10.1% and the tax rate is 25%.             a. If the company’s cost of equity is 12%, what is the pretax cost of debt?             b. If instead you know the aftertax cost of debt is 6.4%, what is the cost of equity?
A company currently has a debt to total assets ratio of 35% and the beta of...
A company currently has a debt to total assets ratio of 35% and the beta of the company is 1.05. The company has a current cost of debt of 7.8% and a tax rate of 38%. The current risk-free rate is 4.5% and the market risk premium (the difference between the return on the market and the risk-free rate of return) is 4%. Companies with similar risk characteristics and 40% debt can borrow at 9.5%. Would the company lower its...
Fyre, Inc., has a target debt?equity ratio of 1.50. Its WACC is 8 percent, and the...
Fyre, Inc., has a target debt?equity ratio of 1.50. Its WACC is 8 percent, and the tax rate is 35 percent. A) If the company’s cost of equity is 14 percent, what is its pretax cost of debt? B) If instead you know that the aftertax cost of debt is 4.1 percent, what is the cost of equity?
Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent...
Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent preferred stock, and 60 percent common equity. Its bonds have a 12 percent coupon rate paid semiannually, a current maturity of 20 years, and a price of $1,000. The firm could sell preferred stock dividends at $12 with a price of $100. Rollins's beta is 1.2, the risk-free rate is 11 percent, and the market risk premium is 5 percent. Rollins is a constant-growth...
Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent...
Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent preferred stock, and 60 percent common equity. Its bonds have a 7.5 percent coupon, paid semiannually, a current maturity of 20 years, and sell for $1,105.78. The firm could sell, at par, $100 preferred stock which pays a 8 percent annual dividend, but flotation costs of 5 percent would be incurred. Rollins' beta is 1.8, the risk-free rate is 2.45 percent, and the market...
Starset, Inc., has a target debt-equity ratio of 0.73. Its WACC is 10.5 percent, and the...
Starset, Inc., has a target debt-equity ratio of 0.73. Its WACC is 10.5 percent, and the tax rate is 33 percent.       If the company's cost of equity is 14.5 percent, what is the pretax cost of debt? If instead you know that the aftertax cost of debt is 7.3 percent, what is the cost of equity?
Starset, Inc., has a target debt-equity ratio of 0.73. Its WACC is 11 percent, and the...
Starset, Inc., has a target debt-equity ratio of 0.73. Its WACC is 11 percent, and the tax rate is 31 percent. If the company's cost of equity is 16 percent, what is the pretax cost of debt? If instead you know that the aftertax cost of debt is 6.5 percent, what is the cost of equity?
ADVERTISEMENT
Need Online Homework Help?

Get Answers For Free
Most questions answered within 1 hours.

Ask a Question
ADVERTISEMENT