ABC Inc. currently has 100 million shares of stocks outstanding and the price per share is $10. The value ofABC Inc.'s long term debt is $10 billion (that is, $10,000 million).ABC Inc. can borrow money at the risk-free interest rate of 10%. Current projects are evaluated at a WACC of 11% (based on an assumption of market risk premium of 5%).The tax rate is 30%.Assume that the ABC's FCFs are forecast to stay equal from now into perpetuity (same cash flow every year forever).

ABC Inc. notes that most of their competitors have lower leverage, and it is considering decreasing its leverage D/(D+E) to 20%.

a) How does lowering of leverage affect the cost of equity?

b) What wouldABC Inc's cost of capital (WACC) be at this lower leverage rate?