1. EuroAsia Auto Firm is a Polish manufacturer of auto-parts. Its cost of debt is 16%. The risk-free rate of interest is 8.5%. The expected return on the Turkish market portfolio is 22%. After effective taxes, EuroAsias effective tax rate is 25%. Its optimal capital structure is 80% debt and 20% equity.

a. If EuroAsias beta is estimated at 1.1, what is its weighted average cost of capital?

b. If EuroAsias beta is estimated at 0.9, significantly lower because of the high demand for automobile parts, what is its weighted average cost of capital?

2. Petro-U.K. is a British energy firm that needs to raise 150 million to finance expansion projects. Suppose that Petro-U.K. is seeking a capital structure comprising 30% debt and 70% equity. The corporate tax rate in the U.K. is 21%. Funds can be raise in multiples of 50 million. For equity and debt respectively, the financing costs are 8% and 6% on the U.K. market and 10% and 8% on the Latin American (LA) market.

A consultancy firm advises Petro-U.K. that incremental finance could be raised and each increment of cost would be influenced by the total amount of capital raised. The preference order for each incremental round of fund raising is- Debt: LA -> LA -> UK, Equity: UK -> LA -> UK.

For equity and debt respectively, the first increment of 50 million (30% debt and 70% equity) would cost 10% and 8% on the U.K. market and 12% and 10% on the Latin American market. The second increment of 50 million would cost 12% and 10% on the U.K. market and 16% and 14% on the Latin American market.

a. Calculate the average cost of capital for each increment of 150 million.

b. If Petro-U.K. plans an expansion of only 75 million, what will be the WACC?