Bulldog Electronics Corporation finances its operations with $75 million in stock with a required return of 12 percent and $45 million in bonds with a required return of 8 percent.Suppose the firm issues $15 million in additional bonds at 8 percent,using the proceeds to retire $15 million worth of equity.If the WACC remains the same,what will be the firm's new cost of equity? (Assume zero taxes and perfect capital markets)

Question

Quizplus · Accepted Answer

Old WACC:
Rs = R + (R - Rd)* D/E = .12 = R + (R - .08)* $45/$75
.12 = R + .6 R - .048
R = (.12+.048)/1.6 = .1050
New Rs:
Rs = R + (R - Rd)* D/E
Rs = .1050 + (.1050 - .08)* $60/$60 = .1050 + .025 = .13

Bulldog Electronics Corporation Finances Its Operations with $75 Million in Stock