Suppose Microsoft has no debt and an equity cost of capital of 9.2%. The average debt-to-value ratio for the software industry is 13%. What would its cost of equity be if it took on the average amount of debt for its industry at a cost of debt of 6%?

Question

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DeniceSandidge DeniceSandidge · Answer 1 · 2019-12-25T14:02:29+01:00

Answer:

cost of equity = 9.68 %

Explanation:

given data

cost of capital = 9.2%

average debt to value ratio = 13%

cost of debt = 6%

to find out

cost of equity

solution

we will apply here cost of equity formula that is

cost of equity = Cc + [tex]\frac{D}{E}[/tex] × ( Cc - Cd ) ........1

here Cc is cost of capital and Cd is cost of debt and D is debt-to-value ratio i.e 0.13 and E is Equity to Value ratio that is 1 - 0.13 = 0.87

put here all value in equation 1

cost of equity = Cc + [tex]\frac{D}{E}[/tex] × ( Cc - Cd )

cost of equity = 0.092 + [tex]\frac{0.13}{0.87}[/tex] × ( 0.092 - 0.06 )

cost of equity = 9.68 %