SIROM Scientific Solutions has $10 million of outstanding equity and $10 million of bank debt.The bank debt costs 7% per year.The estimated equity beta is 2.If the market risk premium is 6% and the risk-free rate is 5%,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:

Cost of equity = Risk-free rate + (Equity beta x Market risk premium)
Cost of equity = 5% + (2 x 6%) = 17%

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

WACC = (Equity / Total value) x Cost of equity + (Debt / Total value) x Cost of debt x (1 - Tax rate)
Total value = Equity + Debt = $10 million + $10 million = $20 million

WACC = (10 / 20) x 17% + (10 / 20) x 7% x (1 - 0.3)
WACC = 0.5 x 17% + 0.5 x 4.9%
WACC = 10.95%

Therefore, the best answer is C, with a WACC of 10.95%.

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