What would be the theoretical total value of the company, V, (enterprise value) after the debt? a. 95 million b. 100 million c. 105 million d. 110 million Question 6. What would be the shareholders' required rate of return, rE, after the leverage? a. 9% b. 10% c. 11% d. 12% Question 7. What would be the company's cost of capital (WACC after tax) after the leverage? a. 8.8% b. 9.1% c. 9.5% d. 10.0%
Cost of Capital
Shareholders and investors who invest into the capital of the firm desire to have a suitable return on their investment funding. The cost of capital reflects what shareholders expect. It is a discount rate for converting expected cash flow into present cash flow.
Capital Structure
Capital structure is the combination of debt and equity employed by an organization in order to take care of its operations. It is an important concept in corporate finance and is expressed in the form of a debt-equity ratio.
Weighted Average Cost of Capital
The Weighted Average Cost of Capital is a tool used for calculating the cost of capital for a firm wherein proportional weightage is assigned to each category of capital. It can also be defined as the average amount that a firm needs to pay its stakeholders and for its security to finance the assets. The most commonly used sources of capital include common stocks, bonds, long-term debts, etc. The increase in weighted average cost of capital is an indicator of a decrease in the valuation of a firm and an increase in its risk.
Assumptions: A company pays 20% income tax. The company is debt-free and its shareholders' return is 10%. The market value of the total share capital is 100 million. The company's management is thinking about changing the capital structure and debting the company for 50 million and using the proceeds of the loan to buy half of the outstanding shares at market value. The interest rate on the loan would be 7%.
Question 5. What would be the theoretical total value of the company, V, (enterprise value) after the debt? a. 95 million b. 100 million c. 105 million d. 110 million
Question 6. What would be the shareholders' required
Question 7. What would be the company's cost of capital (WACC after tax) after the leverage? a. 8.8% b. 9.1% c. 9.5% d. 10.0%
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