Delta Lighting has 24,500 shares of common stock outstanding at a market price of $19 a share. This stock was originally issued at $21 per share. The firm also has a bond issue outstanding with a total face value of $250,000 which is selling for 94 percent of par. The cost of equity is 12.6 percent while the aftertax cost of debt is 5.8 percent. The firm has a beta of 1.33 and a tax rate of 23 percent. What is the weighted average cost of capital?

Question

Quizplus · Accepted Answer

First, let's calculate the market value of equity:

24,500 shares x $19 per share = $465,500

The market value of equity is lower than the book value of equity:

24,500 shares x $21 per share = $514,500

This indicates that investors have a lower expectation of the firm's future earnings compared to when the stock was first issued.

Next, let's calculate the market value of debt:

$250,000 x 0.94 = $235,000

Now, we can calculate the weights of equity and debt:

Weight of equity = $465,500 / ($465,500 + $235,000) = 0.664

Weight of debt = $235,000 / ($465,500 + $235,000) = 0.336

Using the given information, we can now calculate the WACC:

WACC = (0.664 x 0.126) + (0.336 x 0.058 x (1 - 0.23)) x 1.33

WACC = 0.084 + 0.013 x 1.33

WACC = 0.10232 or 10.32%

Therefore, the best choice is B, which is the closest to the result of 10.32%.

Delta Lighting Has 24,500 Shares of Common Stock Outstanding at a Market