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Homework answers / question archive / Luther Industries has an equity value of $450 million and $150 million in outstanding debt

Luther Industries has an equity value of $450 million and $150 million in outstanding debt

Finance

Luther Industries has an equity value of $450 million and $150 million in outstanding debt. Suppose Luther's equity cost of capital is 13%, its debt cost of capital is 7%, and the corporate tax rate is 40%.

Luther's weighted average cost of capital is closest to:

Select one:

 

a.11.5%

b.10.8%

c. 9.8%

d.13.0%

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Computation of Weighted Average Cost of Capital (WACC):  
Source of Capital Amount Weight After Tax Cost of Capital Weighted Tax Cost of Capital
Equity 450.00 75% 13% 9.75%
Debt 150.00 25% 4.20% 1.05%
  600.00   WACC =  10.80%

 

Computation of Weighted Average Cost of Capital (WACC):      
Source of Capital Amount Weight After Tax Cost of Capital Weighted Tax Cost of Capital
Equity 450 =450/600 0.13 =75%*13%
Debt 150 =150/600 =7%*(1-40%) =25%*4.2%
  =450+150   WACC =  =9.75%+1.05%

So, the correct option is B "10.80%. Weighted Average Cost of Capital is 10.80%.

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