Question

The effect of tax rate on WACC   

K. Bell Jewelers wishes to explore the effect on its cost of capital of the rate at which the company pays taxes. The firm wishes to maintain a capital structure of

35%

debt,

15%

preferred stock, and

50%

common stock. The cost of financing with retained earnings is

16%,

the cost of preferred stock financing is

12%,

and the before-tax cost of debt financing is

7%.

Calculate the weighted average cost of capital

(WACC)

given a tax rate of 30%.

The firm's WACC is

nothing%.

(Round to two decimal places.)

Answer 1

GIVEN THAT COST DEBT BFORE TAX = 7%

WORKING NOTE :CALCULATION OF COST OF DEBT AFTER TAX = interest (1 - t)

   = 7 (1 - .30)

=4.90 %

calculation of weighted average cost of capital ​(WACC​) :

particulars	weight	cost(%)	wacc(weight x cost)
EQUITY STOCK	0.50	10	5
PREFERRED STOCK	0.15	12	1.8
DEBT	0.35	4.90	1.7150
TOTAL	1		8.5150

HENCE WACC = 8.5150 % OR SAY 8.52 %