Capital Co. has a capital structure, based on current market values, that consists of 50 percent debt, 10 percent preferred stock, and 40 percent common stock. If the returns required by investors are 8 percent, 10 percent, and 15 percent for the debt, preferred stock, and common stock, respectively, what is Capital’s after-tax WACC?

In order to calculate Capital Co.’s after-tax WACC (weighted average cost of capital) we must first determine the required return for each type of financing and then apply relevant tax rates. Since debt typically comes with a lower cost than equity, its expected return should be the lowest at 8 percent. The preferred stock is next in line at 10 percent, while common stock has the highest return requirement of 15 percent.

Next, we need to adjust these returns for taxes since interest payments on debt are tax deductible whereas dividends paid out on equity are not; this means that debt can only be used as a partially effective shield against taxes. Taking this into consideration and assuming a corporate tax rate of 25%, the after-tax cost associated with each form of financing would be 6%, 7.5% and 11.25% respectively.

Finally, to arrive at an overall WACC we simply multiply each respective after-tax cost by its weighting within Capital Co’s capital structure (i.e., 50% x 6%, 10% x 7.5%, 40% x 11.25%) – which in this case works out to be 5%. This figure represents the company’s estimated weighted average cost of capital after accounting for applicable taxes; it can then be used for comparison against actual returns realized from investments or other projects undertaken by the organization so as to assess their economic performance over time.