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3 November, 19:50

Lannister Manufacturing has a target debt-equity ratio of. 55. Its cost of equity is 11 percent, and its cost of debt is 6 percent. If the tax rate is 21 percent, what is the company's WACC?

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  1. 3 November, 22:03
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    8.8%

    Explanation:

    Given

    cost of equity is 11 percent = 0.11

    cost of debt is 6 percent = 0.06

    tax rate 21 percent = 0.21

    debt-equity ratio = 0.55

    That is debt = 0.55 * equity

    We will calculate the weight for debt and equity as

    **Weight for equity

    Debt + equity = 1

    0.55 * equity + equity = 1

    1.55 * equity = 1

    equity = 1/1.55

    equity = 0.6452

    ** * weight for debt

    Debt + equity = 1

    Debt + 0.6452 = 1

    Debt = 1 - 0.6452

    Debt = 0.3548

    Now we calculate the weighted average cost of capital WACC

    WACC = [weight of debt * (cost of debt * (1 - tax rate) ] + weight of equity * cost of equity

    = [0.3548 * (0.06 * (1 - 0.21) ] + (0.6452 * 0.11)

    = 0.01681752 + 0.070972

    =0.08778952

    WACC = 8.8%
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