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Bath Supplies Corp.’s capital structure is 60% debt and 40% equity. The company is planning to...

Bath Supplies Corp.’s capital structure is 60% debt and 40% equity. The company is planning to build a plant to manufacture a new type of organic toothpaste called Krud. Brightee Inc. produces only organic toothpaste. Brightee's beta is 1.2 and Brightee’s capital structure is 30% debt and 70% equity. The risk free-rate is 3% and the market premium is 7%. Bath Supplies’ after-tax cost of debt is 7%. What discount hurdle rate should Bath Supplies apply to the new plant? Use the proxy firm beta method.

Proxy WACC =

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Expert Solution

proxy WACC is used as the hurdle rate for Bath supplies Corp,

which is calculated by first taking the beta for Brightee and unlevering it using the Brightee's capital structure

Then we have to re-lever this beta as per the capital structure of Bath Supplies Corp

This beta will be used to calculate the cost of equity for Bath Supplies

and then using this and the after tax cost of debt, proxy WACC will be calculated

we have to relever the beta because the capital structure for both the firms is different

jeff jeffy answered 1 year ago
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