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In order to get the weighted average cost of capital for the hotel division, we need to know D/V, E/V, RD, RE, and t. Based on Exhibit 1, t = Income taxes/Income before income taxes = 175.9/398.9 = 44%.
According to Exhibit 3, we can get the following table: | d/v | Equity Beta | e/v | d/e | Unleveraged Beta | Hilton Hotel | 14% | 0.76 | 86% | 16% | 0.70 | Holiday Corporation | 79% | 1.35 | 21% | 376% | 0.43 | La Quinta | 69% | 0.89 | 31% | 223% | 0.40 | Ramada | 65% | 1.36 | 35% | 186% | 0.67 | | Average | Unleverage | Beta | | 0.55 |
*E/V = 1 - d/v, D/E = (d/v) / (e/v), Unleveraged Beta = Equity Beta / (1+(1– t)*(d/e))
Then Table A provides lodging’s D/V which is 0.74, so E/V and D/E are 0.26 and 2.85 separately. Therefore, Leveraged Beta = Average Unleveraged Beta *(1+(1-t)*(D/E)) = 0.55 * (1+(1-44%)*2.85) = 1.42.
Cost of Equity (RE):
Table B provides risk-free rate which is 8.95%, and Exhibit 5 supports risk premium which is 7.43%.
RE = risk-free rate + leveraged beta * risk premium = 8.95% + 1.42 * 7.43% = 0.195
Cost of Debt (RD):
Table A provides debt rate premium which is 1.10%, so
RD = risk-free rate + debt rate premium = 8.95% + 1.10% = 0.1005
Weighted Average Cost of Capital (WACC):
WACC = (1-t)* RD * (D/V) + RE * (E/V) = (1-44%)*0.1005*0.74 + 0.195*0.26 =

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