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Assume that an all equity firm has assets of $20,000 and a return on assets (ROA) of
13.00 percent. And that the firm makes the decision to replace 1/2 of its equity with
debt that has a before-tax cost of 8 percent Assuming that the firm’s tax rate is 40
percent, calculate the firm’s ROE after the debt has been issued and equity has been
repurchased. (HINT: Think about leverage and tax shelter effects of using debt that we
demonstrated in class.)
Assume that in 2006 (today) a firm had EBIT of $9,000,000, a tax rate of 40 percent,
and that the firm’s total invested capital could be defined as $20,450,000 (consisting of
$8,000,000 of debt and $12,450,000 of equity), and that its weighted average cost of
capital is 12 percent. (Hint: you should now be able to calculate economic value
added (EVA) for 2006.) Now assume that EVA is expected to grow at a long-run
sustainable growth rate of 4 percent each year. Given this information, determine the
present value today (2006) of all future EVAs to be earned by the firm.
Assume that your company is 60 percent equity financed (40 percent debt financed).
Given the following information, calculate the return on equity (ROE).
Dividend payout ratio
Total assets turnover