A firm uses INR 50 million of debt, INR 15 million of short-term debt, and INR...

A firm uses INR 50 million of debt, INR 15 million of short-term debt, and INR 90 million of common equity to finance its assets. If the before-tax cost of debt is 10%, after-tax cost of short-term debt is 8%, and the cost of common equity is 16%, calculate the weighted average cost of capital for the firm assuming a tax rate of 20%.

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Expert Solution

Market Value of Debt = 50 Million

Market Value of Short-term Debt = 15 Million

Market Value of Equity = 90 Million

Total Market Value = 155 Million

Weight of Debt = 0.3226 [50 Million / 155 Million]

Weight of Short-term Debt = 0.0968 [15 Million / 155 Million]

Weight of Common Equity = 0.5806 [90 Million / 155 Million]

After-tax cost of debt

After-tax cost of debt = Yield to Maturity on Debt x (1 – Tax rate)

= 10.00% x (1 – 0.20)

= 10.00% x 0.80

= 8.00%

After-tax cost of Short-term debt = 8.00%

Cost of Common Equity = 16.00%

Weighted Average Cost of Capital (WACC)

Weighted Average Cost of Capital (WACC) = [After-tax cost debt x Weight of Debt] + [After-tax cost of short-term debt x Weight of short-term Debt] + [Cost of Equity x Weight of Equity]

= [8.00% x 0.3226] + [8.00% x 0.0968] + [16.00% x 0.5806]

= 2.58% + 0.77% + 9.29%

= 12.65%

Hence, the Weighted Average Cost of Capital (WACC) will be 12.65%

jeff jeffy answered 1 year ago

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