Optimo Corporation is evaluating its capital structure and attempting to optimize the value of the firm. While the debt-to-equity ratio is less than 1, the company's shareholders have indicated that they require a 13% return on equity and the bank has indicated that it will charge an after-tax rate of 8%. Once the debt-to-equity ratio exceeds I, the bank has indicated that it will require a 10% after-tax rate and the shareholders require a 15% return on equity. Of the selections listed below, Optimo Corporation's optimum capital structure is most likely to occur when the debt-to-equity ratio is: A. 0.50 B. 1,00 C. 2.00 D. 3.00

Optimo Corporation is evaluating its capital structure and attempting to optimize the value of the firm. While the debt-to-equity ratio is less than 1, the company's shareholders have indicated that they require a 13% return on equity and the bank has indicated that it will charge an after-tax rate of 8%. Once the debt-to-equity ratio exceeds I, the bank has indicated that it will require a 10% after-tax rate and the shareholders require a 15% return on equity. Of the selections listed below, Optimo Corporation's optimum capital structure is most likely to occur when the debt-to-equity ratio is: A. 0.50 B. 1,00 C. 2.00 D. 3.00

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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Guam Motors is presently an all equity firm. It needs to raise $2.5m in additional funds. After raising its funds, it expects perpetual EBIT to be $600,000. The firm's unlevered cost of equity is 12% and its before tax cost of debt is 8%. 1) If there are no corporate taxes, under M-M theory what is the value of Guam Motors if it employs common stock to raise the needed funds? 2)If there are no corporate taxes and Guam Motors employs debt to raise 50% of the firm value, what is the cost of equity, the weighted average cost of capital and the value of the firm? 3) If there are no corporate taxes and M-M theory holds, will investors prefer levered firm to the unlevered firm? Why? 4)Will the presence of corporate taxes increase or decrease the firm value? Why? 5)Assume that corporate tax is 25%. What is the all equity value of Guam Motors? 6)If the corporate tax is 25% and Guam Motors employees same amount of debt as in 2) to raise part of the firm value, what is the cost of equity,the…
Snow Flake Inc is currently all equity financed. The company decides to recapitalize to take advantage of the tax shield of debt. The firm's marginal tax rate is 30%. After a substantial borrowing, firm's cost of equity goes up to 12%. Assuming that firm's asset beta is 0.9, risk free rate is 2%, and EMRP is 5%, the company's post recapitalization debt to capital ratio is closest to: Group of answer choices Search 36% 175% 64% 56% None of the answers is correct
AAA Inc. has a current debt-to-equity ratio of 3, and is considering expanding its operations into a new industry. Firms in this new industry face a different set of risks than AAA Inc. However, the executives at AAA Inc. observe that a company in the new industry (BBB Inc.) has a cost of equity of 14%, a cost of debt of 7%, and a debt-to-value ratio of 40%. AAA Inc. plans to finance its expansion into the new industry with 50% debt and 50% equity. The cost of debt for AAA Inc. is also 7%, and the corporate tax rate is 25%. Solve for the discount rate that AAA Inc. should use when evaluating whether to go forward with the expansion
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Ilumina Corp is trying to determine its optimal capital structure. The company’s capital structure consists of debt and common stock. In order to estimate the cost of debt, the company has produced the following table: Percent financed with debt (wd) Percent financed with equity (wc) Debt-to-equity ratio (D/S) After-tax cost of debt (%) 0.25 0.75 0.25/0.75 = 0.33 6.9% 0.35 0.65 0.35/0.65 = 0.5385 7.1% 0.50 0.50 0.50/0.50 = 1.00 8.0% The company uses the CAPM to estimate its cost of common equity, rs. The risk-free rate is 5% and the market risk premium is 6%. Ilumina estimates that its beta with 10% debt is 1. The company’s tax rate, T, is 40%. On the basis of this information, what is the company’s optimal capital structure, and what is the firm’s cost of capital at this optimal capital structure? (Please show work)
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K. Bell Jewelers wishes to explore the effect on its cost of capital of the rate at which the company pays taxes. The firm wishes to maintain a capital structure of 30% debt, 20% preferred stock, and 50% common stock. The cost of financing with retained earnings is 13%, the cost of preferred stock financing is 8%, and the before-tax cost of debt financing is 6%. Calculate the weighted average cost of capital (WACC) given a tax rate of
The firm is considering an (Adjusting a firm's capital structure) Curley's Fried Chicken Kitchen operates two southern cooking restaurants in St. Louis, Missouri, and has the following financial structure: E expansion that would involve raising an additional $2.3 million. a. What are the firm's debt ratio and interest-bearing debt ratio in its present capital structure? b. If the firm wants to have a debt ratio of 50 percent, how much equity does the firm need to raise in order to finance the expansion? %. (Round to one decimal place.) a. The firm's debt ratio is Data Table %. (Round to one decimal place.) The firm's interest-bearing debt ratio is b. If the firm wants to have a debt ratio of 50%, the equity the firm needs to raise is $ (Round to the nearest dollar.) $118,000 2 390,000 Accounts payable Short-term debt $508,000 Current liabilities Long-term debt Owner's equity 2,158,000 1,594,000 $4,260,000 Total
K. Bell Jewelers wishes to explore the effect on its cost of capital of the rate at which the company pays taxes. The firm wishes to maintain a capital structure of 30% debt, 20% preferred stock, and 50% common stock. The cost of financing with retained earnings is 13% the cost of preferred stock financing is 9%, and the before-tax cost of debt financing is 7%. Calculate the weighted average cost of capital (WACC) given a tax rate of 21%.
LuLu In. wants to utilize a different debt-equity ratio than it had previously. It is planning to increase the firm’s current debt-equity ratio of 0.4 to a higher value of 0.8 by issuing debt to repurchase a portion of its common stock. LuLu In. currently has $12 million worth of debt outstanding and faces a pretax cost of debt of 8 percent per year. The firm expects to have an EBIT of $3.6 million per year in perpetuity and pays no taxes. Use the Modigliani and Miller propositions to determine the expected rate of return on the firm’s equity after the issue is announced.
The DEF Company is planning a $64 million expansion. The expansion is to be financed by selling $25.6 million in new debt and $38.4 million in new common stock. The before-tax required rate of return on debt is 0.086 and the required rate of return on equity is 0.125. If the company has a marginal tax rate of 0.26, what is the firm's cost of capital? Instruction: Type your answer as a decimal, and round to three decimal places

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