The Felix Filter Corp. maintains a debt-equity ratio of .6. The cost of equity for Richardson Corp. is 16%, the cost of debt is 11% and the marginal tax rate is 30%. What is the weighted average cost of capital?

Question

Quizplus · Accepted Answer

First, we need to find the weights for debt and equity:

Debt: 0.6
Equity: 0.4 (1 - 0.6)

Next, we can use the following formula to calculate WACC:

WACC = (E / V) * Re + (D / V) * Rd * (1 - T)

Where:
E = market value of equity
D = market value of debt
V = total market value
Re = cost of equity
Rd = cost of debt
T = marginal tax rate

We can assume that the market value of debt and equity are equal to their book values. Therefore:

D / V = 0.6
E / V = 0.4

Plugging in the numbers:

WACC = (0.4 * 0.16) + (0.6 * 0.11 * (1 - 0.3))
WACC = 0.064 + 0.0462
WACC = 0.1102 or 11.02%