Question

Debreu Beverages has an optimal capital structure that is 70% common equity, 20% debt, and 10% preferred stock. Debreu's pretax cost of equity is 9%. Its pretax cost of preferred equity is 7%, and its pretax cost of debt is also 5%. If the corporate tax rate is 35%, what is the weighed average cost of capital?

Answer 1

Answer:

WACC = 7.65%

Explanation:

$WACC = K_e(\frac{E}{E+D+P}) + K_d(1-t)(\frac{D}{E+D+P}) + K_p(\frac{P}{E+D+P})\\Where:\\K_e= 0.09\\ER =\frac{E}{E+D+P} = 0.7\\K_d = 0.05\\DR = \frac{D}{E+D+P} = 0.2\\t =0.35\\K_p= 0.07\\PR \frac{P}{E+D+P} = 0.1$

We should include the preferred diferent cost in the WACC formula too.

We got the ratio of each component, and the rates, so we just post them in the formula and solve

$WACC = 0.09(0.7) + 0.05(1-.35)(0.2) + 0.07(.01)$

WACC 0.0765  = 7.65%