Problem 10-12 WACC Midwest Electric Company (MEC) uses only debt and common equi

Question

Problem 10-12
WACC

Midwest Electric Company (MEC) uses only debt and common equity. It can borrow unlimited amounts at an interest rate of rd = 9% as long as it finances at its target capital structure, which calls for 40% debt and 60% common equity. Its last dividend (D0) was $2.25, its expected constant growth rate is 4%, and its common stock sells for $25. MEC's tax rate is 40%. Two projects are available: Project A has a rate of return of 14%, while Project B's return is 9%. These two projects are equally risky and about as risky as the firm's existing assets.

What is its cost of common equity? Round your answer to two decimal places.
______ %

What is the WACC? Round your answer to two decimal places.
______ %

Explanation / Answer

Solution :

cost of capital of the common shares = (D1/market value)   + growth

13.36%

(2.25+4%)/25 + 0.04

WACC = rd(1-tax) X 40% + Ke x 60%

10.18%

0.09(1-.4)x40% + (.1336x60%)

cost of capital of the common shares = (D1/market value)   + growth

13.36%

(2.25+4%)/25 + 0.04

WACC = rd(1-tax) X 40% + Ke x 60%

10.18%

0.09(1-.4)x40% + (.1336x60%)

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