Problem 16-12 Calculating WACC [LQ1] Twice Shy Industries has a debt-equity rati
ID: 2716304 • Letter: P
Question
Problem 16-12 Calculating WACC [LQ1] Twice Shy Industries has a debt-equity ratio of 1.8. Its WACC is 8.3 percent, and its cost of debt is 6.3 percent. The corporate tax rate is 35 percent. What is the company's cost of equity capital? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) What is the company's unlevered cost of equity capital? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) What would the cost of equity be if the debt-equity ratio were 2? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) What would the cost of equity be if the debt-equity ratio were 1.0? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) What would the cost of equity be if the debt-equity ratio were zero? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)Explanation / Answer
a)
Cost of Equity =( WACC - Weight of Debt*After tax cost of Debt)/Weight of Equity
Cost of Equity = (8.3 - (1.8/(1+1.8)) *6.3*(1-35%))/(1/(1+1.8))
Cost of Equity = 15.87%
b)
Unlevered Cost of Equity = (Levered Cost of Equity + Debt Equity ratio*Cost of Debt*(1-tax rate))/(1+Debt Equity ratio*(1-tax rate))
Unlevered Cost of Equity = (15.87 + 1.8*6.3*(1-35%))/(1+1.8*(1-35%))
Unlevered Cost of Equity = 10.71%
c - 1 ) Cost of Equity = Unlevered Cost of Equity + D/E * ( Unlevered Cost of Equity - Cost of Debt)*(1-tax rate)
Cost of Equity = 10.71 + 2*(10.71-6.3)*(1-35%)
Cost of Equity = 16.44%
c - 2 ) Cost of Equity = Unlevered Cost of Equity + D/E * ( Unlevered Cost of Equity - Cost of Debt)*(1-tax rate)
Cost of Equity = 10.71 + 1*(10.71-6.3)*(1-35%)
Cost of Equity = 13.58%
c - 3) Cost of Equity = Unlevered Cost of Equity + D/E * ( Unlevered Cost of Equity - Cost of Debt)*(1-tax rate)
Cost of Equity = 10.71 + 0*(10.71-6.3)*(1-35%)
Cost of Equity = 10.71%