Legal Paper

a) Cost of capital

| 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% |

b)Pro forma optimal capital

asset | $100.00 | Debit | 20 |

| | Equity | 80 |

Total assets | | | 100 |

For the optimal capital structure of the company the firm should borrow 20% of additional funds to cover the other remaining 80% of the additional financing, by considering this structure the firm will increase in the cost of capital 11.20% of cost of equity.

Current Balance sheet

asset | $100.00 | Debit | 10 |

| | Equity | 90 |

Total assets | | | 100 |

C) as the firm initially substitutes debit for equity financing What happens to the cost of capital?

When the company substitutes the debit for more equity the cost of capital decreases, when making the right assumption about the company financing methods, we can see that using more debit will increase the return on the firm’s equity, this happen when the companies use more debit financing than equity, the return get higher per share because the company is only spreading the return on a few shares, maximizing the value of the firm’s stock

d) if the company uses too much debt financing Why happen to cost of capital

if the company increase TOO much the debit financing the cost of the capital will also increase, specially because in some levels of the financial plan the cost of borrowing money is more than the cost of the equity, but I think this happen because the financial risk will increase as well offsetting the advantage of higher per share earnings, this effect could cause the value of the shares to fall, and the company will lose its value.