(Capital Structure and Trade off) PT. Sinar Cemerlang is an unlevered firm with a constant EBIT of Rp 24 billion per year. The corporate tax rate is 36%, and the cost of equity is 15%. Management is considering the use of debt that would cost the firm 9% regardless of the amount used. The firm's management asked a consulting firm to estimate the cost of financial distress and the probability of these costs for each level of debt. The estimated present value of future financial distress is Rp 24 billion and the probability of financial
(Capital Structure and Trade off) PT. Sinar Cemerlang is an unlevered firm with a constant EBIT of Rp 24 billion per year. The corporate tax rate is 36%, and the cost of equity is 15%. Management is considering the use of debt that would cost the firm 9% regardless of the amount used. The firm's management asked a consulting firm to estimate the cost of financial distress and the probability of these costs for each level of debt. The estimated present value of future financial distress is Rp 24 billion and the probability of financial
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
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Transcribed Image Text:2 (Capital Structure and Trade off)
PT. Sinar Cemerlang is an unlevered firm with a constant EBIT of Rp 24 billion per
year. The corporate tax rate is 36%, and the cost of equity is 15%. Management is
considering the use of debt that would cost the firm 9% regardless of the amount
used. The firm's management asked a consulting firm to estimate the cost of financíal
distress and the probability of these costs for each level of debt. The estimated present
value of future financial distress is Rp 24 billion and the probability of financial
distress would increase with leverage as follows:
Value of Debt
I
(Rp billion)
Probability of Distress
(%)
15
30
12
45
30
72
60
90
72
120
90
Transcribed Image Text:a. Determine the value of the firm at various levels of debt without financial
distress cost. What is optimal capital structure of the firm in this scenario?
b. Determine firm at various levels of debt with financial distress cost. What is
optimal capital structure of the firm in this scenario?
c. Explain why there is a difference between the capital structures in (a) and (b)?
Provide an intuitive explanation.
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