Submitted by: Submitted by micahsuze
Views: 508
Words: 332
Pages: 2
Category: Business and Industry
Date Submitted: 04/03/2011 04:58 PM
Text Questions
University of Phoenix
Text Questions
A firm's current balance sheet is as follows:
Assets $100 Debt $10
Equity $90
a. What is the firm's weighted-average cost of capital at various combinations of debt and equity, given the following information?
Debt/Assets After-Tax Cost of Debt Cost of Equity Cost of Cap
0% 8% 12% ?
10 8 12 ?
20 8 12 ?
30 8 13 ?
40 9 14 ?
50 10 15 ?
60 12 16 ?
b. Construct a pro forma balance sheet that indicates the firm's optimal capital structure. Compare this balance sheet with the firm's current balance sheet. What course of action should the firm take?
c. As a firm initially substitutes debt for equity financing, what happens to the cost of capital, and why?
d. If a firm uses too much debt financing, why does the cost of capital rise?
a)
|Debt/Assets |After-tax Cost of Debt |Cost of Equity |Cost of Capital |
|0% |8% |12% |12.00% |
|10% |8% |12% |11.60% |
|20% |8% |12% |11.20% |
|30% |8% |13% |11.50% |
|40% |9% |14% |12.00% |
|50% |10% |15% |12.50% |
|60% |12% |16% |13.60%...