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Cede & Co
Cede & Co. expects its EBIT to be $163,000 every year forever. The company can borrow at 8 percent. The company currently has no debt and its cost of equity is 15 percent and the tax rate is 23 percent. The company borrows $185,000 and uses the proceeds to repurchase shares.
a.What is the cost of equity after recapitalization?
b.What is the WACC?
(For all requirements, do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)
Expert Solution
Given,
Tax rate = 23%
EBIT = 163,000
Cost of Equity = 15%
Value of Un-levered firm = 163,000 * (1 - 0.23)/0.15
= $ 836,733.33
Value of levered firm = $ 836,733.33 + 0.23 * 185,000
= 879283.33
Cost of Equity = 15% + (15% - 8%) * (185,000/ (879283.33 - 185,000) * (1 - 0.23)
= 16.44%
WACC = 16.44% * (879283.33 - 185,000)/ 879283.33+ 8% * 185,000/ 879283.33 * (1 - 23%)
WACC = 14.28%
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