1. A firm has the following capital structure: thousands € Liabilities and equity thousands € Assets Assets 12,000 Debt 3,000 Common stock 9,000 Total 12,000 Total 12,000 a) What is the firm's weighted average cost of capital at various combinations of debt ans equity, given the following information? Tax rate is 30%. Deb/Assets Debt interest rate Cost of equity 0% 6% 10% 10% 6% 10% 20% 6% 10% 30% 6% 10% 40% 8% 12% 50% 10% 13% 60% 13% 15% b) Construct a 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 the firm substitutes debt for equity financing, what happens to the cost of capital, and why?
1. A firm has the following capital structure: thousands € Liabilities and equity thousands € Assets Assets 12,000 Debt 3,000 Common stock 9,000 Total 12,000 Total 12,000 a) What is the firm's weighted average cost of capital at various combinations of debt ans equity, given the following information? Tax rate is 30%. Deb/Assets Debt interest rate Cost of equity 0% 6% 10% 10% 6% 10% 20% 6% 10% 30% 6% 10% 40% 8% 12% 50% 10% 13% 60% 13% 15% b) Construct a 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 the firm substitutes debt for equity financing, what happens to the cost of capital, and why?
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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Transcribed Image Text:1. A firm has the following capital structure:
Assets
thousands €
Liabilities and equity
thousands €
Assets
12,000
Debt
3,000
Common stock
9,000
Total
12,000
Total
12,000
a) What is the firm's weighted average cost of capital at various combinations of debt ans
equity, given the following information? Tax rate is 30%.
Debt/Assets Debt interest rate Cost of equity
0%
6%
10%
10%
6%
10%
20%
6%
10%
30%
6%
10%
40%
8%
12%
50%
10%
13%
60%
13%
15%
b) Construct a 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 the firm substitutes debt for equity financing, what happens to the cost of capital,
and why?
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