Flowercenter is 40% financed by debt with a yield-to-maturity of 8.5%. The beta of its equity is 1.3. The market risk premium is 8.4%. The risk-free rate is 3.8%. Given a tax rate of 21%, what is the WACC for Flowercenter

WACC is 8.554%

Explanation:

First of all we will find Ke which can be calculated using the Capital Asset Pricing Model. The formula is as under:

Ke = Rf + β (Rm - Rf)

By putting the formula, we have:

Ke = 3.8% + 1.3 (8.4% - 3.8%)

Ke = 3.8% + 5.98% = 9.78%

Now after cost of debt = 8.5% * (1 - 21% tax rate) = 6.715%

Furthermore, we know that the Debt is 40% of total finance which means that the equity is 60%.

By putting value in the formula given in the attachment, we have:

WACC = (60% / 100%) *9.78% +  (40% / 100%) * 6.715%

WACC = 8.554%