Cost of Common Equity Percy Motors has a target capital structure of 45% debt an
ID: 2636458 • Letter: C
Question
Cost of Common Equity
Percy Motors has a target capital structure of 45% debt and 55% common equity, with no preferred stock. The yield to maturity on the company's outstanding bonds is 8%, and its tax rate is 40%. Percy's CFO estimates that the company's WACC is 14.50%. What is Percy's cost of common equity? Round your answer to two decimal places.
%
Cost of Common Equity
Percy Motors has a target capital structure of 45% debt and 55% common equity, with no preferred stock. The yield to maturity on the company's outstanding bonds is 8%, and its tax rate is 40%. Percy's CFO estimates that the company's WACC is 14.50%. What is Percy's cost of common equity? Round your answer to two decimal places.
%
Explanation / Answer
WACC = weight of equity*cost of equity+weight of debt*cost of debt*(1-tax rate)
=>14.50% = 55%*cost of equity + 45%*8%*(1-40%)
=> cost of equity = (14.50%-45%*8%*(1-40%))/55%
=22.44%
Hence, 22.44% is the cost of common equity.