Sirtex Medical has $4 million of outstanding equity and $12 million of bank debt. The bank debt costs 5% per year. The estimated equity beta is 1. If the market risk premium is 7% and the risk-free rate is 4%, compute the weighted average cost of capital if the firm's tax rate is 30%.

Question

Quizplus · Accepted Answer

The correct answer is A because the weighted average cost of capital (WACC) is calculated as follows:WACC = (E/V) * Re + (D/V) * Rd * (1 - T)where:E = market value of equityV = total value of the firmRe = cost of equityD = market value of debtRd = cost of debtT = tax rateIn this case, we have:E = $4 millionV = $4 million + $12 million = $16 millionRe = 4% + 1 * 7% = 11%D = $12 millionRd = 5%T = 30%Plugging these values into the formula, we get:WACC = (4/16) * 11% + (12/16) * 5% * (1 - 0.3) = 5.38%

Sirtex Medical Has $4 Million of Outstanding Equity and $12