Question

assume a risk free rate of 2.6 percent a market risk rate of 8.5%, the company is 30% debt with bonds with a YTM of 3.89% the company is 1.4 times riskier than the overall market. The company has no preferred stock. The company paid 3,500,000 in taxes last year on pretax income of 10,000,000 what is the after tax cost of debt? What is the WACC?

Answer 1

tax rat = taxes/pretax income = 3500000/10000000=35%

Cost of equity

As per CAPM

Cost of equity = risk-free rate + beta * (expected return on the market - risk-free rate)

Cost of equity% = 2.6 + 1.4 * (8.5 - 2.6)

Cost of equity% = 10.86

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

After tax cost of debt = 3.89*(1-0.35)

= 2.5285

Weight of equity = 1-D/A

Weight of equity = 1-0.4391

W(E)=0.5609

Weight of debt = D/A

Weight of debt = 0.4391

W(D)=0.4391

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

WACC=2.53*0.4391+10.86*0.5609

WACC% = 7.2