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A company decides to raise $30 million in order to finance a new division within the...

A company decides to raise $30 million in order to finance a new division within the company. They will exclusively use new equity to finance this new division. What will be the likely impact of this decision on the company's WACC? Explain why or why not and use financial leverage, component costs and capital structure in your answer.

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Equity financing refers to the process of raising funds needed by issue of shares to the public.In equity financing the issue of shares and their subsequent purchase implies that the shareholders will have ownership interest in the firm.The issue of shares thus results in the dilution of ownership.If the firm had used debt financing(financial leverage) the firm would retain the ownership interest(no dilution will occur) and the firm's management would be in charge of the decision making.Another perk would be that the interest payment that the firm has to make on the debt would result in a tax benefit to the firm.But the use of debt would result in interest payment obligations.This could prove to be detrimental if the firm falls on hard times ,which would then make it hard for the firm to make the interest payment.The Weighted average cost of capital is the total cost incurred by the company to raise it's capital.It is the sum of the cost of debt the cost of equity and the cost of preference shares.So if the firm decides to issue new shares to raise the funds needed the WACC of the firm would increase as a result of this.

jeff jeffy answered 1 year ago
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