 
Builders has a market​ debt-equity ratio of 

0.800.80​, 

a corporate tax rate of 

25 %25%​, 

and pays 

8 %8% 

interest on its debt. By what amount does the interest tax shield from its debt lower 

SummitSummit​'s 

​WACC?

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Part 1

WACC is lowered by 

enter your response here​%. 

 ​(Round to two decimal​ places.)

To calculate by how much the interest tax shield lowers a company's weighted average cost of capital (WACC), we use the following formula for the tax shield:

\[
\text{WACC Reduction} = \text{Debt Ratio} \times \text{Interest Rate on Debt} \times \text{Tax Rate}
\]

### Given dataTo calculate by how much the interest tax shield lowers a company's weighted average cost of capital (WACC), we use the following formula for the tax shield:

\[
\text{WACC Reduction} = \text{Debt Ratio} \times \text{Interest Rate on Debt} \times \text{Tax Rate}
\]

### Given 
- Debt-equity ratio \( = 0.80 \)
- Interest rate on debt \( = 8\% \) or \( 0.08 \)
- Corporate tax rate \( = 25\% \) or \( 0.25 \)

To get the **Debt Ratio**, we need to convert the **debt-equity ratio** to the percentage of debt in the company's capital structure:

\[
\text{Debt Ratio} = \frac{\text{Debt-Equity Ratio}}{1 + \text{Debt-Equity Ratio}} = \frac{0.80}{1 + 0.80} = \frac{0.80}{1.80} \approx 0.4444
\]

Now, we can plug these values into the formula:

\[
\text{WACC Reduction} = 0.4444 \times 0.08 \times 0.25
\]

Let me calculate this.The interest tax shield lowers the WACC by approximately **0.89%**.

Would you like further clarification or more details on any part of this?

Here are some related questions to deepen understanding:
1. How does the debt-equity ratio impact the WACC calculation?
2. What happens to WACC if the tax rate increases?
3. Why is the interest tax shield important for companies with high leverage?
4. How would an increase in interest rates affect WACC?
5. Can the interest tax shield affect a company’s overall valuation?

**Tip:** The tax shield benefits highly leveraged companies by reducing their cost of capital through tax savings on interest payments.

Builders has a market​ debt-equity ratio of 0.80, a corporate tax rate of 25%, and pays 8% interest on its debt. By what amount does the interest tax shield from its debt lower Summit​'s WACC?

Discover how the interest tax shield lowers Summit's WACC, given a debt-equity ratio of 0.80, a corporate tax rate of 25%, and an interest rate of 8% on debt. This problem involves calculating the WACC reduction using key finance formulas and concepts.

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