Use the following information to answer the question(s)below.
Wyatt Oil is considering an investment in a new project with an unlevered cost of capital of 11%.Wyatt's corporate tax rate is 21% and its debt cost of capital is 6%.The project has free cash flows of $25 million per year which are expected to decline by 3% per year.
-If Wyatt adjusts its debt continuously to maintain a constant debt-equity ratio of 50%,then the appropriate WACC for this new project is closest to:
A)7.5%.
B)8.6%.
C)10.3%.
D)10.8%.

Question

Quizplus · Accepted Answer

The WACC can be calculated using the formula: WACC = (E/V) * Re + (D/V) * Rd * (1 - Tc), where E/V is the equity proportion, D/V is the debt proportion, Re is the cost of equity, Rd is the cost of debt, and Tc is the corporate tax rate. Given a debt-equity ratio of 50%, D/V = 1/3 and E/V = 2/3. The cost of equity can be derived from the unlevered cost of capital and the debt-equity ratio. The WACC calculation results in approximately 10.3%.

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