Question

: Company ABC is considering making a change to its capital structure to reduce its cost of capital and increase firm value. Right now, Company ABC has a capital structure that consists of 20% debt and 80% equity, based on market values. (Its D/S ratio is 0.25.) The risk-free rate is 6% and the market risk premium, rM - rRF, is 5%. Currently the company's cost of equity, which is based on the CAPM, is 12% and its tax rate is 40%. What would be Company ABC's estimated cost of equity if it were to change its capital structure to 50% debt and 50% equity? (10)

Answer #1

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Right now, it has a capital structure that consists of 20% debt and
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structure. Right now, it has a capital structure that consists of
20% debt and 80% equity, based on market values (its debt to equity
D/S ratio is 0.25). The risk-free rate (rRF) is 6% and
the market risk premium (rM – rRF) is 5%.
Currently the company’s cost of equity, which is based on the CAPM,
is 12% and its tax rate is 40%. Find the firm’s current leveraged
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the company has a capital structure that consists of 50% debt and
50% equity, based on market values (debt to equity D/S ratio is
1.0). The risk-free rate (rRF) is 3.5% and the market
risk premium (rM – rRF) is 5%. Currently the
company’s cost of equity, which is based on the CAPM, is 13.5% and
its tax rate is 30%. Find the firm’s current leveraged beta using
the CAPM....

40. A company is estimating its optimal capital structure. Now
the company has a capital structure that consists of 50% debt and
50% equity, based on market values (debt to equity D/S ratio is
1.0). The risk-free rate (rRF) is 3.5% and the market
risk premium (rM – rRF) is 5%. Currently the
company’s cost of equity, which is based on the CAPM, is 13.5% and
its tax rate is 30%. Find the firm’s current leveraged beta using
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Situational Software Co. (SSC) is trying to establish its
optimal capital structure. Its current capital structure consists
of 20% debt and 80% equity; however, the CEO believes that the firm
should use more debt. The risk-free rate, rRF, is 6%; the market
risk premium, RPM, is 5%; and the firm's tax rate is 25%.
Currently, SSC's cost of equity is 15%, which is determined by the
CAPM. What would be SSC's estimated cost of equity if it changed
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