|Suppose that your company is launching a new project. To estimate the cost of capital for the project|
|you search the market and find a company that has very similar risk characteristics to the project as follows:|
|Market capitalization, MVE =||$100.00||million|
|Market value of debt, D =||$50.00||million|
|Cost of debt, Rd =||5.00%|
|Cost of equity, Re =||15.50%|
|Corporate tax rate, t =||30%|
|Calculate the cost of capital of the project for the following two cases:|
|The project is equity financed.|
|The project is funded by both debt and equity and has the same leverage ratio (D/E) as does the comparable.|
cost of capital of the project if the project is equity financed is cost of equity that is 15.50%.
The project is funded by both debt and equity and has the same leverage ratio then cost of capital of project would be WACC of company.
Market value of equity = $100 million
Market value of debt = $50 million
Total Value of capital = $150 million.
Weight of debt = 33.33%
Weight of equity = 66.67%
WACC is calculated below:
WACC = (66.67% × 15.50%) + (33.33% × 5%) × (1 - 30%)
= 10.33% + 1.17%
WACC is 11.50%.
Get Answers For Free
Most questions answered within 1 hours.