Lewis believes that the current capital structure

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Unformatted text preview: ure. Lewis believes that the current capital structure, which contains 10% debt and 90% equity, may lack adequate financial leverage. To evaluate the firm’s capital structure, Lewis has gathered the data summarized in the following table on the current capital structure (10% debt ratio) and two alternative capital structures—A (30% debt ratio) and B (50% debt ratio)—that he would like to consider. Capital structurea Source of capital Current (10% debt) A (30% debt) B (50% debt) Long-term debt $1,000,000 $3,000,000 $5,000,000 9% 10% 12% 100,000 shares 70,000 shares 40,000 shares 12% 13% 18% Coupon interest rateb Common stock Required return on equity, ksc aThese structures are based on maintaining the firm’s current level of $10,000,000 of total financing. rate applicable to all debt. cMarket-based return for the given level of risk. bInterest Lewis expects the firm’s earnings before interest and taxes (EBIT) to remain at its current level of $1,200,000. The firm has a 40% tax rate....
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This document was uploaded on 03/30/2014.

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