SIROM Scientific Solutions has $10 million of outstanding equity and $5 million of bank debt.The bank debt costs 5% per year.The estimated equity beta is 2.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

First, we need to calculate the cost of equity using the Capital Asset Pricing Model (CAPM):

Cost of equity = risk-free rate + beta * market risk premium
Cost of equity = 4% + 2 * 7%
Cost of equity = 18%

Next, we need to calculate the weighted average cost of capital (WACC):

WACC = (equity / total capital) * cost of equity + (debt / total capital) * cost of debt * (1 - tax rate)

WACC = (10 / 15) * 18% + (5 / 15) * 5% * (1 - 30%)
WACC = 12% + 1.75%
WACC = 13.75%

Therefore, the closest answer is A) 13.16%.

SIROM Scientific Solutions Has $10 Million of Outstanding Equity and $5