CoffeeStop, known primarily for selling coffee, has recently introduced a premium coffee-flavored liquor (BF Liquors). The firm faces a 40% tax rate and has gathered relevant information for its financial planning. CoffeeStop intends to finance 12% of the new liquor-focused division with debt, with the remaining 88% funded through equity. For the division's Weighted Average Cost of Capital (WACC) calculation, assume a 5.4% cost of debt, a risk-free rate of 3.5%, and a market risk premium of 6.9%.

To calculate the Weighted Average Cost of Capital (WACC) for CoffeeStop’s new liquor-focused division, we need to consider the costs associated with both equity and debt financing, weighted by their proportion in the firm's capital structure.

Let’s follow the steps to calculate the WACC:

First, we need to calculate the cost of equity. Given that we have the risk-free rate and the market risk premium, we can use the Capital Asset Pricing Model (CAPM) which has the following formula: Cost of Equity (Re) = Risk-free rate (Rf) + Beta (β) * Market Risk Premium (Rm - Rf)

In this scenario, we are not provided with the Beta (β) for CoffeeStop’s new division, which is a measure of the stock's volatility in comparison to the market. However, we can assume that this detail is either considered to be 1 (if the division's risk profile is similar to the market average) or it could be a detail that’s missing and we would need in order to calculate the cost of equity.

Assuming Beta (β) = 1 (for calculation purposes): Cost of Equity (Re) = Risk-free rate (Rf) + Beta (β) * Market Risk Premium (Rm - Rf) Re = 3.5% + 1 * 6.9% Re = 3.5% + 6.9% Re = 10.4%

Next, we have the after-tax cost of debt (Rd) which is given as 5.4%. Since interest expense is deductible for tax purposes, we adjust for taxes as follows: After-tax Cost of Debt (Rd) = Cost of Debt * (1 - Tax Rate) Rd = 5.4% * (1 - 0.40) Rd = 5.4% * 0.60 Rd = 3.24%

Now we can proceed with the calculation of WACC, using the weights given for debt (wd) and equity (we), here being 12% and 88% respectively:

WACC = (we * Re) + (wd * Rd) WACC = (0.88 * 10.4%) + (0.12 * 3.24%) WACC = 9.152% + 0.3888% WACC = 9.5408%

Therefore, the Weighted Average Cost of Capital (WACC) for CoffeeStop's new liquor-focused division is approximately 9.54%.