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The market value of AmeriTech’s bonds is $10 million while the market value of its common...

The market value of AmeriTech’s bonds is $10 million while the market value of its common stock is $20 million, resulting in a debt/equity ratio of 0.33. The cost of common stock equity is estimated to be 16% using the DGM and 20% using the CAPM. The bond coupon rate and YTM are both 11% per year. The income tax rate is 40%. Assuming only debt and common equity financing exist, what is the firm’s weighted-average cost of capital? (Use several decimals to reduce any rounding error.)

a. 15.7%

b. 15.5%

c. 12.9%

d. 14.2%

e. None of the above.

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Answer #1

Answer is option B 15.5%

We have taken cost of common stock by using CAPM Model.

WACC = 20 * 20/30 + 11(1-0.04)*10/30

=13.33 +2.20

= 15.53 or 15.5%

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