Problem 13-10 Calculating WACC [LO 1] Crosby Industries has a debt-equity ratio
ID: 2753139 • Letter: P
Question
Problem 13-10 Calculating WACC [LO 1]
Crosby Industries has a debt-equity ratio of 1.1. Its WACC is 12 percent, and its cost of debt is 5 percent. There is no corporate tax.
What is Crosby’s cost of equity capital? (Do not round intermediate calculations. Input your answer as a percentage 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. Input your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
What would the cost of equity be if the debt-equity ratio were 0.6? (Do not round intermediate calculations. Input your answer as a percentage 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. Input your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
Crosby Industries has a debt-equity ratio of 1.1. Its WACC is 12 percent, and its cost of debt is 5 percent. There is no corporate tax.
Explanation / Answer
Requirement 1
Weighted average cost of capital = (Cost of equity x equity proportion) + (cost of debt x debt proportion)
Debt equity ratio = 1.1 which means 52% debt and 48% equity
WACC = 12%
12% = (Cost of equity x 48%) + ( 5% x 52%)
Cost of equity = (12% - 2.6%)/ 48%
Cost of equity = 19.58%
Requirement 2
a) If debt equity ratio is 2 which means debt is twice of equity
12% = Cost of equity x 33.3% + 5% x 66.7%
Cost of equity = (12% - 3.33%)/33.3% = 26%
b) Debt equity ratio at 0.6
Debt = 37.5% and Equity = 67.5%
Cost of equity = (12% - (5% x 37.5%)/67.5% = 15%
(c) Debt equity ratio is 0 means the equity is 100%
Hence cost of equity = 12%