Gnomes R Us is considering a new project. The company has a debt-equity ratio of

Question

Gnomes R Us is considering a new project. The company has a debt-equity ratio of .82. The company’s cost of equity is 14.7 percent, and the aftertax cost of debt is 8 percent. The firm feels that the project is riskier than the company as a whole and that it should use an adjustment factor of +2 percent.

What is the company’s WACC? (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)

What discount rate should the firm use for the project? (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)

Gnomes R Us is considering a new project. The company has a debt-equity ratio of .82. The company’s cost of equity is 14.7 percent, and the aftertax cost of debt is 8 percent. The firm feels that the project is riskier than the company as a whole and that it should use an adjustment factor of +2 percent.

Explanation / Answer

Answer: Requirement 1:

WACC=(1/1.82)*14.7%+(0.82/1.82)*8%

=8.077%+3.604%

=11.68%

Answer: Requirement 2:

=11.68%+2%

=13.68%

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