WACC Assignment - A firms current balance sheet is as...

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A firm’s current balance sheet is as follows: Assets $100 Debt $10 Equity $90 a. What is the firm’s weighted-average cost of capital at various combinations of debt and equity, given the following information? Debt Asset After tax cost of debet Cost of equity Cost of Capital 0% 8% 12% ? 10% 8% 12% ? 20% 8% 12% ? 30% 8% 13% ? 40% 8% 14% ? 50% 10% 15% ? 60% 12% 16% ? b. Construct a pro forma 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? Assets $100 Debt $? Equity $? c. As a firm initially substitutes debt for equity financing, what happens to the cost of capital, and why? d. If a firm uses too much debt financing, why does the cost of capital rise? The cost of capital (k) is a weighted average: k = (weight)(cost of debt) + weight(cost of equity) Debt/ Weight x + Weight x = Cost of Assets Cost Cost Capital of Debt of Equity 0% (.0)(.08) + (1.0)(.12) =
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This note was uploaded on 02/24/2012 for the course BUSINES BUSINES taught by Professor Chitapradhan during the Spring '12 term at DeVry Phoenix.

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WACC Assignment - A firms current balance sheet is as...

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