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Cost of Capital

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If Wild Widgets, Inc., (WWI) were an all-equity firm, it would have a beta of 0.9.WWI has a target debt-to-equity ratio of 0.50.The expected return on the market portfolio is 16 percent, and Treasury bills currently yield 8 percent per annum. WWI one-year, $1,000 par value bonds carry a 7 percent annual coupon and are currently selling for $972.73.The yield on WWI's longer term debt is equal to the yield on its one-year bonds. The corporate tax rate is 34 percent.

a. What is WWI's cost of debt?

b. What is WWI's cost of equity?

c. What is WWI's weighted average cost of capital?

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Solution Summary

Solution describes the steps for finding cost of debt and cost of equity. Weighted average cost of capital is also worked out.

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Solution:

a. What is WWI's cost of debt?
Price of bond=$972.73
Let us see cash flows related to bond
Year End Cash Flow
0 -972.73
1 1070

For calculating YTM
PV of cash outflows=972.73
PV of ...

Solution provided by:
Lokesh Jain, MSc
Education
  • BEng (Hons) , Birla Institute of Technology and Science, India
  • MSc (Hons) , Birla Institute of Technology and Science, India
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