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You were hired as a consultant to Quigley Company, whose target capital structure is 35% debt, 10% preferred, and 55% common equity. The interest rate on new debt is 6.50%, the yield on the preferred is 6.00%, the cost of retained earnings is 14.75%, and the tax rate is 40%. The firm will not be issuing any new stock.
1. What is Quigley's WACC?a. 10.08% b. 9.57% c. 12.60% d. 8.67% e. 10.48%

Respuesta :

Shahzaibfaraz

Answer:

The WACC of the firm is 10.08% and option A is the correct answer.

Explanation:

The WACC or the weighted average cost of capital is the average cost of capital to the firm based on its capital structure and the weights of all the components that form up its capital structure and their respective rate. The capital structure of a firm consists of debt, preferred stock and the common stock.

The formula for WACC is,

WACC = wD * rD * (1-tax rate)  +  wP * rP  +  wE  *  rE

Where,

  • wD, wP and wE represents the weight of debt, preferred stock and common equity component as a proportion of total assets
  • rD, rP and rE represents the cost of each component
  • rD * (1-tax rate) is taken as the after tax cost of debt is used for WACC

WACC =  0.35 * 0.065 * (1-0.4)  +   0.1 * 0.06   +   0.55 * 0.1475

WACC = 0.1008 or 10.08%

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