Question 2

Hill’s General Corp has debt of $140 million and equity of $160 million. The company recently issued bonds at 7 percent. The beta of the company is 0.85, the risk-free rate is 5 percent, and the required return on the market is 11 percent. If the firm’s tax rate is 35 percent, the firm’s weighted average cost of capital (WACC) is closest to:

A. 6.59 percent.

B. 7.51 percent.

C. 5.86 percent.

Solution

Answer is: B

E(R) = k=rf+ beta * (Rm-Rf) =0.05+0.85 * (0.11-0.05) =0.101

WACC=(E/V)*(Re) +(D/V)*(Rd)*(1-t)

WACC=(160/300)*(0.101) +(140/300)*(0.07)*(1-0.35) =0.0751