7. ABC Co. and XYZ Co. are identical firms in all respects except for their capital structure. ABC is all-equity financed with $600,000 in stock. XYZ uses both stock and perpetual debt; its stock is worth $300,000 and the interest rate on its debt is 10%. Both firms expect EBIT to be $85,000. Ignore taxes.

a. What is the cost of equity for ABC and XYZ? (Ans. ABC=0.14, XYZ=0.18)

b. What is the WACC for ABC and XYZ? (Ans. ABC=0.14, XYZ=0.14)