Equity investors have contributed $250,000 to your start-up business, while creditors provided a loan of $300,000.You have calculated your firm's WACC at 10 percent.The annual interest payment is $25,000 and the marginal corporate tax rate is 35 percent.How much profit will your equityholders need to earn in order to break even in economic terms (i.e., EVA of zero)?

Question

Quizplus · Accepted Answer

To break even in economic terms (EVA of zero), equityholders need to earn a profit that covers the cost of equity. The cost of equity is calculated as WACC minus the after-tax cost of debt. The after-tax cost of debt is $25,000 * (1 - 0.35) = $16,250. The total cost of capital is $250,000 * 10% = $25,000. Therefore, equityholders need to earn $25,000 + $16,250 = $41,250. However, since the interest payment is already accounted for, the profit needed is $41,250 - $16,250 = $25,000.

Equity Investors Have Contributed $250,000 to Your Start-Up Business, While