Question

Epiphany is an? all-equity firm with an estimated market value of? $500,000. The firm sells $100,000 of debt and uses the proceeds to purchase outstanding equity. Compute the weight in equity and the weight in debt after the proposed financing and repurchase of equity.

Answer 1

Before the proposed financing, the value of the market of an all-equity firm was $500,000

After the proposed financing firm sells $100,000 of debt to repurchase the outstanding equity so the total value of the firm still remains the same but equity reduces to $400,000 ($500,000- $100,000) while the market value of Debt of $100,000 adds to the overall market value of the firm.

So % of Equity = $400,000/$500,000*100= 80%

% of Debt = $100,000/ $500,000*100 = 20%