A firm has a market value of assets of $50,000.It borrows $10,000 at 3%.If the unlevered cost of equity is 15%,what is the firm's cost of equity capital?

Question

Quizplus · Accepted Answer

The formula to calculate the cost of equity with leverage is:
Cost of Equity = Unlevered Cost of Equity + (Debt/Equity) * (Unlevered cost of Equity - Interest Rate on Debt)

Here, Debt = $10,000 and Interest Rate on Debt = 3%, and Equity = $50,000 - $10,000 = $40,000

Using the formula: 
Cost of Equity = 15% + (10,000 / 40,000) * (15% - 3%) 
Cost of Equity = 18%

Therefore, the firm's cost of equity capital is 18%. Answer choice D is correct.

A Firm Has a Market Value of Assets of $50,000