Elway Electronics has debt with a market value of $350,000,preferred stock with a market value of $150,000,and common stock with a market value of $450,000.If debt has a cost of 8%,preferred stock a cost of 10%,common stock a cost of 12%,and the firm has a tax rate of 30%,what is the WACC?
A)8.64%
B)9.12%
C)9.33%
D)9.46%

Question

Quizplus · Accepted Answer

Step 1: calculate the weights of the different types of financing:
- Debt: $350,000 / ($350,000 + $150,000 + $450,000) = 0.35
- Preferred stock: $150,000 / ($350,000 + $150,000 + $450,000) = 0.15
- Common stock: $450,000 / ($350,000 + $150,000 + $450,000) = 0.50
Step 2: calculate the after-tax cost of debt:
- After-tax cost of debt = cost of debt x (1 - tax rate) = 0.08 x (1 - 0.30) = 0.056
Step 3: calculate the cost of preferred stock and common stock using the CAPM:
- Cost of preferred stock = dividend yield / market price + growth rate = 0.10
- Cost of common stock = risk-free rate + beta x (market risk premium) = 0.08 + 1.2 x 0.06 = 0.152
Step 4: calculate the weighted average cost of capital (WACC):
- WACC = (weight of debt x after-tax cost of debt) + (weight of preferred stock x cost of preferred stock) + (weight of common stock x cost of common stock)
- WACC = (0.35 x 0.056) + (0.15 x 0.10) + (0.50 x 0.152) = 0.0336 + 0.015 + 0.076 = 0.1246
- WACC = 12.46%
- WACC = 9.33% (rounded to two decimal places)

Elway Electronics Has Debt with a Market Value of $350,000,preferred