Twice Shy Industries has a debtequity ratio of 1.3. Its WACC is 7.1 percent, and

Question

Twice Shy Industries has a debtequity ratio of 1.3. Its WACC is 7.1 percent, and its cost of debt is 6.6 percent. The corporate tax rate is 35 percent.

What is the company’s cost of equity capital? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

What is the company’s unlevered cost of equity capital? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

What would the cost of equity be if the debtequity ratio were 2? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

What would the cost of equity be if the debtequity ratio were 1.0? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

What would the cost of equity be if the debtequity ratio were zero? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Twice Shy Industries has a debtequity ratio of 1.3. Its WACC is 7.1 percent, and its cost of debt is 6.6 percent. The corporate tax rate is 35 percent.

Explanation / Answer

a. WACC = post-tax cost of debt x weight of debt + cost of equity x weight of equity

7.1 = 6.6 x (1- 0.35) x 1.3 / 2.3 + cost of equity x 1/2.3

7.1 = 2.425 + 0.434 cost of equity

Cost of equity = 10.75%

b. Unlevered cost of equity = Cost of equity in levered firm - tax effect

Unlevered cost of equity = 8.84%

c-1. WACC = post-tax cost of debt x weight of debt + cost of equity x weight of equity

7.1 = 6.6 x (1- 0.35) x 2/3 + cost of equity x 1/3

7.1 = 2.86 + 0.33 cost of equity

Cost of equity = 12.85%

c-2. WACC = post-tax cost of debt x weight of debt + cost of equity x weight of equity

7.1 = 6.6 x (1- 0.35) x 1/2 + cost of equity x 1/2

7.1 = 2.145 + 0.5 cost of equity

Cost of equity = 9.91%

c-3. If the debt-equity ratio is zero, it means there is no debt in the capital structure and all the Cost of capital belongs Equity.

So, cost of equity = 7.1%

Related Questions

Navigate

• Browse (All)
• Browse T
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.