David Ortiz Motors has a target capital structure of 40% debt and 60% equity.

Managerial Finance 650

Problem 9-08 (WACC)

David Ortiz Motors has a target capital structure of 40% debt and 60% equity. The yield to maturity on the company's outstanding bonds is 10%, and the company's tax rate is 25%. Ortiz's CFO has calculated the company's WACC as 10.2%. What is the company's cost of equity capital?

Round your answer to the nearest whole number.

Expert Solution

1]	After tax cost of debt = 10%*(1-25%) =	7.50%
2]	Now, WACC = After tax cost of debtWeight of debt+Cost equityWeight of equity
	Substituting known values in the above equation:
	10.2% = 7.50%40%+Cost of equity60%
	Cost of equity = (10.2%-0.03)/60% =	12.00%
	Answer: Cost of equity = 12%

jeff jeffy answered 2 years ago

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