Home / Expert Answers / Finance / 29-we-are-considering-an-investment-opportunity-and-we-can-choose-one-of-the-following-three-capita-pa972

(Solved): 29. We are considering an investment opportunity and we can choose one of the following three capita ...



29. We are considering an investment opportunity and we can choose one of the following three capital structure plans:

Debt

Equity

Cost of Debt

Plan A

20%

80%

4.1%

Plan B

40%

60%

5.0%

Plan C

90%

10%

9.4%

The unlevered beta is 1, tax rate is 35%. Market return is 10.9% and risk-free rate is 2.6%.

The optimal WACC is

_____%.



We have an Answer from Expert

View Expert Answer

Expert Answer



Calculation The WACC formula is:   
Where: E = Market Value of Equity V = Total market value of equity & debt Ke = Cost of Equity D = Market Value of Debt Kd = Cost of Debt Tax rate = Tax rate Plan A E/V = 0.8 Ke = Rf + ? * (Rm – Rf) = 2.6% + 1 * (10.9% – 2.6%) = 8.3% D/V = 0.2 Kd = 4.1% Tax rate = 35% WACC = (0.8 * 8.3%) + (0.2 * 4.1% * (1 – 0.35)) = 9.33% Plan B E/V = 0.6 Ke = 8.3% D/V = 0.4 Kd = 5.0% Tax rate = 35% WACC = (0.6 * 8.3%) + (0.4 * 5.0% * (1 – 0.35)) = 9.53% Plan C E/V = 0.1 Ke = 8.3% D/V = 0.9 Kd = 9.4% Tax rate = 35% WACC = (0.1 * 8.3%) + (0.9 * 9.4% * (1 – 0.35)) = 11.52% Conclusion Plan A has the lowest WACC, so it is the optimal capital structure plan.
We have an Answer from Expert

Buy This Answer $5

Place Order

We Provide Services Across The Globe