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Baron Corporation has a target capital structure of 65 percent common stock, 10 percent preferred stock, and 25 percent debt. Its cost of equity is 13 percent, the cost of preferred stock is 6 percent, and the pretax cost of debt is 7 percent. The relevant tax rate is 25 percent.
a. What is the company’s WACC? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
b. What is the aftertax cost of debt?
a. WACC _____ %.
b. Aftertax cost of debt ___%.

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Answer:  a. WACC = Ke(E/V) + kp(P/V) + kd(D/V)(1-T)

               WACC = 13(65/100) + 6(10/100) + 7(25/100)(1-0.25)

               WACC = 8.45 + 0.6 + 1.3125

               WACC = 10.36%

              WACC is 10.36%

              b. The after tax cost of debt = kd(1-T)

                                                                = 7(1-0.25)

                                                                = 5.25%

Explanation: WACC equals cost of equity multiplied by the proportion of equity in the capital structure plus cost of preferred stock multiplied by the proportion of preferred stock in the capital structure plus cost of debt multiplied by the after-tax proportion of debt in the capital structure.

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