Cadmium Electronics Inc. currently has a capital structure that is 40% debt and 60% equity. If the firm's cost of equity is 12%, the cost of debt is 8%, and the risk-free rate is 3%, what is the appropriate WACC?
A) 8.4%
B) 9.6%
C) 10.4%
D) 9.2%

Question

Quizplus · Accepted Answer

We can use the formula for WACC:

WACC = (E/V) × Re + (D/V) × Rd × (1 - Tc)

where:
E/V = percentage of financing that comes from equity = 0.6
D/V = percentage of financing that comes from debt = 0.4
Re = cost of equity = 12%
Rd = cost of debt = 8%
Tc = corporate tax rate = not given in the problem

To solve for WACC, we need to know the corporate tax rate. Since it is not given, we will assume it is zero (to be conservative).

WACC = (0.6 × 0.12) + (0.4 × 0.08) = 0.072 + 0.032 = 0.104 or 10.4%