8 M&M’s Proposition II.

(a) Winger Toys, a toy manufacturing company, has a bond on which it pays an interest rate of 9 per cent and a WACC of 18 per cent. If the financial manager informs you that the company’s debt-equity ratio is 50/50, calculate the company’s cost of equity, ignoring taxes.

(b) Recalculate the cost of equity assuming a corporate tax rate of 30 per cent and comment on your findings.