Weighted Average Cost of Capital Formula
CPA Auditing and Attestation (AUD) · Learn by Concept
Help Questions
CPA Auditing and Attestation (AUD) › Weighted Average Cost of Capital Formula
Which one of a firm's sources of new capital usually has the lowest after-tax cost?
Bonds
Preferred stock
Retained earnings
Common stock
Explanation
Debt is a cheaper source of financing than equity. In addition, there is a tax deduction for interest paid on debt.
Which of the following rates is most commonly compared to the internal rate of return to evaluate whether to make an investment?
Prime rate of interest
Long term rate on US Treasury bonds
Short term rate on US Treasury bonds
Weighted average cost of capital
Explanation
WACC is used as the hurdle rate within capital budgeting techniques. Investments that provide a return that exceeds the WACC should continuously add to the value of the firm.
Which one of the following factors might cause a firm to increase the debt in its financial structure?
An increase in the PE ratio
A decrease in the times interest earned ratio
An increase in the corporate income tax rate
Increased economic uncertainty
Explanation
Interest on debt financing is tax-deductible whereas dividends from equity are not. An increase in tax rates might cause a firm to increase debt financing.
The marketable securities with the least amount of default risk are:
Repurchase agreements
Federal government agency securities
US Treasury securities
Bankers acceptances
Explanation
Default risk is the risk that the security will not be paid. US Treasury securities are issued by the Treasury Department which has no risk of non payment.
Which of the following measurement models is being used if a calculation includes risk-free rate, beta coefficient, rate of return, and required rate of return?
Capital asset pricing
Constant growth
Overall cost of capital
Weighted marginal cost of capital
Explanation
These factors are included in the calculation of CAPM.
Which of the following would never be included in the WACC formula?
Tax rate
Required rate of return
Summed market values of a firm's capital structure
Risk
Explanation
Risk is not assessed in calculating the WACC. WACC is used to determine the cost of financing for a firm.