8.) Twice Shy Industries has a debtequity ratio of 1.4. Its WACC is 8 percent, a

Question

8.)

Twice Shy Industries has a debtequity ratio of 1.4. Its WACC is 8 percent, and its cost of debt is 5.9 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.)

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.)

Explanation / Answer

Twice Shy Industries a. Debt Equity Ratio is 1.4 Thus, if the Equity is 1, the Debt is 1.4 WACC is 8% Particulars Cost Post Tax Weighted Cost Cost Debt 5.90% 3.83500% 5.37% Equity X X X Thus, X + 5.37% = 8% Hence, X or the Cost of Capital is 8% - 5.37% = 2.63% b. Unlevered Cost of Equity Capital Cost of Capital = Unlevered Cost of Capital X (1 - Post Tax Debt Rate) Thus, Unlevered Cost of Capital = Cost of Capital / (1 - Post Tax Debt Rate) Hence, Unlevered Cost of Equity Capital = 2.63% / (1 - 3.835%) = 2.73% c-1. If the debt equity ratio were 2 Equity = 1 ; Debt = 2 Particulars Cost Post Tax Weighted Cost Cost Debt 5.90% 3.83500% 7.67% Equity X X X Thus, X + 7.67% = 8% Hence, X or the Cost of Capital is 8% - 7.67% = 0.33% c-2. If the debt equity ratio were 1 Equity = 1 ; Debt = 1 Particulars Cost Post Tax Weighted Cost Cost Debt 5.90% 3.83500% 3.84% Equity X X X Thus, X + 3.84% = 8% Hence, X or the Cost of Capital is 8% - 3.84% = 4.16% c-3. If the debt equity ratio were 0 Equity = 1 ; Debt = 0 Particulars Cost Post Tax Weighted Cost Cost Debt 5.90% 3.83500% 0.00% Equity X X X Thus, X + 0 = 8% Hence, X or the Cost of Capital is 8% - 0 = 8%

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