Dicey Investments, Inc. has a debt/equity ratio of 2.0. If it had no debt, its cost of equity would be 13%, while Its pre-tax cost of debt is 10%. Assuming that Dicey has no changes in its credit ratings and that its marginal tax rate is 30%, what is its after-tax WACC?

= 9%

Explanation

The weighted Average cost of Capital (WACC) is the average cost of capital for the different sources of long-term capital available to a firm weighted according to the proportion each source of finance bears to the total capital in the pool.

The after tax WACC will be computed as follows

Step 1

Compute the after-tax cost of debt

After-tax  cost of debt =

=10%× (1-0.3)

=7%  

Note : observe that this lower than the before tax cost, this is due to the tax savings on interest cost

Cost of equity = 13%

Debt equity ratio = 2:1

Step 2

Calculate the WACC

WACC = ((13%  × 1) + (7%×2))/3

           = 0.09 × 100

           = 9%