You have the following information for Alpha plc: Equity: 500,000 shares. The company just paid a dividend of 2 and the dividends are expected to...
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You have the following information for Alpha plc:

Equity: 500,000 shares. The company just paid a dividend of £2 and the dividends are expected to grow by 3% per year indefinitely. The current share price is £20. The return of Alpha's equity has a standard deviation of 24% per annum and a correlation with the

market of 0.9.

Debt: 10,000 bonds outstanding, with 20 years to maturity, a coupon rate of 7% and a face value of £1,000. The price of the bonds is £901.036 and they pay coupons semiannually.

The market risk premium is 6% and the standard deviation of the returns of the market is 15%. Treasury bills are yielding 4% and the corporate tax rate is 20%.


Now assume that there is cost of financial distress that depends on the level of debt (B). Specifically, the expected cost of financial distress (CFD) for Beta plc is given by CFD=(1/9,000,000)Å~B2. What is the level of debt and equity that maximises the

value of Beta?

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Subject: Business, Finance
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