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Financing – Capital structure

Solution

The answer is (C)

WACC = k eu (1 – tL), where k eu is given as 10%, t is 30% and L is the gearing
level measured as (debt/debt + equity)).

Gearing working:

The value of the company was $280 million (210 equity and 70 debt).

Therefore, using the equation Vg = Vu + TB,

280 = Vu + (30% × 70), so Vu = $259 million

Hence, with the new gearing level, Vg = 259 + (30% × 90) = $286 million

and therefore, WACC = 0.10 × [1 – (30% × 90/286)] = 9.06%

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