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Capital Structure of any company is the mix of different levels of debt and equity. An optimal capital structure is the appropriate mix of debt and equity, striking a balance between risk and return to achieve the goal of maximizing the price of the firm’s stock. Therefore, a target proportion of capital structure and cost of each financing can be used to determine the WACC of the company.
Weighted Average Cost of Capital (WACC) is the required
Here,
Proportion of debt in the target capital structure “
Proportion of preferred stock in the target capital structure “
Proportion of equity in the target capital structure “
After tax cost of debt, preferred stock,
EPS analysis at a given level of EBIT helps in determining the optimal capital structure of the firm, that is the structure at which the EPS will be the highest.
Firm LM’s debt to asset ratio is 25%, total assets is $800,000, EBIT is $60,000 and number of shares outstanding is 15000 with an interest rate of 8% Firm QR on the other hand, has debt to total asset ratio of 50% with $400,000 as assets, $70,000 as EBIT. It has an interest rate of 10% and has 25,000 shares outstanding. Marginal tax rate is 40% for both the firms.
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- Given: Firm A is all-equity financed and has total assets of $200 million. Firm B is an identical firm to Firm A, but 70% of its $200 million of total assets are financed with debt bearing an interest rate of 5%. Assume firms pay corporate taxes at the rate of 20% of taxable earnings. Both firms have the same EBIT, $15 million. Compute Firm B's interest deduction. Firm B’s interest deduction is $ ______ million. Keep the result with one decimal.arrow_forwardUpton Umbrellas has a cost of equity of 12.6 percent, the YTM on the company's bonds is 5.7 percent, and the tax rate is 39 percent. The company's bonds sell for 104.2 percent of par. The debt has a book value of $438,000 and total assets have a book value of $962,000. If the market-to-book ratio is 3.04 times, what is the company's WACC?arrow_forwardUpton Umbrellas has a cost of equity of 10.6 percent, the YTM on the company's bonds is 5.2 percent, and the tax rate is 22 percent. The company's bonds sell for 92.6 percent of par. The debt has a book value of $378,000 and total assets have a book value of $942,000. If the market-to-book ratio is 2.44 times, what is the company's WACC? Multiple Choice O 8.09% 5,38% 7.85% 8.68% Darrow_forward
- Online Network Inc. has a net income of $700,000 in the current fiscal year. There are 100,000 shares of common stock outstanding, along with convertible bonds, which have a total face value of $1.5 million. The $1.5 million is represented by 1,500 different $1,000 bonds. Each $1,000 bond pays 6 percent interest. The conversion ratio is 10. The firm is in a 20 percent tax bracket. a. Compute basic earnings per share. (Do not round intermediate calculations and round your answer to 2 decimal places.) Basic earnings per share C b. Compute diluted earnings per share. (Do not round intermediate calculations and round your answer to 2 decimal places.) 200 Diluted earnings per sharearrow_forwardThe total book value of WTC's equity is $13 million, and book value per share is $20. The stock has a market-to-book ratio of 1.5, and the cost of equity is 9%. The firms bonds have a face value of $9 million and sell at a price of 110% of face value. The yield to maturity on the bonds is 7% andthe firm's tax rate is 21%. What is the company's WACC? (Don't round intermediate calculations, enter final answers as a percent rounded to 2 decimal places.)arrow_forwardOnline Network Inc. has a net income of $570,000 in the current fiscal year. There are 100,000 shares of common stock outstanding, along with convertible bonds, which have a total face value of $1.4 million. The $1.4 million is represented by 1,400 different $1,000 bonds. Each $1,000 bond pays 6 percent interest. The conversion ratio is 30. The firm is in a 40 percent tax bracket. a. Compute basic earnings per share. (Do not round intermediate calculations and round your answer to 2 decimal places.) Basic eamings per share- b. Compute diluted earnings per share. (Do not round intermediate calculations and round your answer to 2 decimal places.) Diluted earnings per sharearrow_forward
- Clive Limited Company has a cost of debt of 7%, a cost of equity of 11%, and a cost of preferred stock of 8%. The firm has 104,000 shares of common stock outstanding at a market price of $20 a share. There are 40,000 shares of preferred stock outstanding at a market price of $34 a share. The bond issue has a total face value of $500,000 and sells at 102% of face value. The tax rate is 34%. What is the Weighted Average Cost of Capital WACC?arrow_forwardChisel Corporation has 3 million shares outstanding at a price per share of $3.25. If the deb-to-equity ratio if 1.7 and a total book value of debt equals $12,400,000, what is the market-to-book ratio for Chisel Corporationarrow_forwardJerry Jeff, Inc. has 12, 800 shares of common stock outstanding at a price per share of $70 and the rate of return on the stock is 11.41 percent. The value of Jerry Jeff's debt is $373, 230 and the required rate of return on the debt is 6.03 percent. What is the Jerry Jeff's WACC if the tax rate is 21 percent? A. 8.89% B. 9.83% C. 9.46% D. 8.72%arrow_forward
- Alpha Corporation and Beta Corporation are identical in every way except their capital structures. Alpha Corporation, an all equity firm, has 15,000 shares of stock outstanding, currently worth GH¢ 30 per share. Beta Corporation uses leverage in its capital structure. The market value of Beta’s debt is GH¢ 65,000 and its cost of debt is 9 percent. Each firm is expected to have earnings before interest of GH¢ 75,000 in perpetuity. Neither firm pays taxes. Assume that every investor can borrow at 9 percent per year. What is the value of Alpha Corporation? What is the value of Beta Corporation? What is the market value of Beta Corporation’s equity?arrow_forwardCandyland Inc. has 400,000 shares outstanding that sell for $33 a share. It also has a current bond issuance outstanding with a market value of $5 million. The firm’s book value of debt is $7 million. The firm’s equity cost of capital is 5.0% and the YTM of its debt is 3.0%. What is Candyland’s Pre-tax WACC? A. 4.27% B. 4.45% C. 4.11% D. 4.31%arrow_forwardTake it all away has a cost of equity of 10.84 percent, a pretax cost of debt of 5.47 percent, and a tax rate of 39 percent. The company's captial structure consists of 76 percent debt on a book value basis, but debt is 38 percent of the company's value on a market value basis. What is the company's WACCarrow_forward
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