Fin 3322: Cashman Capital Structure

Fin 3322: Cashman
Structure In-class

1. The total amount of debt in the company
is $1 million and expects to have the same amount of debt forever. If the
company has before tax cost of debt of 10% and corporate tax rate of 35%, what
is the present value of tax shield?

2. Health
and Wealth Company is financed entirely by common stock which is priced to
offer a 15% expected return. If the
company repurchases 25% of the common stock and substitutes an equal value of
debt yielding 6%, what is the expected return on the common stock after
refinancing? (Ignore taxes.)

3. The Backwoods Lumber Co. has a
debt-equity ratio of .80. The firm’s required return on assets is 12% and its
cost of equity is 15.68%. What is the pre-tax cost of debt based on MM
Proposition II with no taxes?

4. Gail’s
Dance Studio is currently an all equity firm that has 80,000 shares of stock
outstanding with a market price of $42 a share. The current cost of equity is
12% and the tax rate is 34%. Gail is considering adding $1 million of debt with
a coupon rate of 8% to her capital structure. The debt will be sold at par
value. What is the levered value of the equity?

5. Scott’s Leisure Time Sports is an
unlevered firm with an after-tax net income of $86,000. The unlevered cost of
capital is 10% and the tax rate is 34%. What is the value of this firm?

6. A firm has
zero debt in its capital structure. Its overall cost of capital is 9%. The firm
is considering a new capital structure with 40% debt. The interest rate on the
debt would be 4%. Assuming that the corporate tax rate is 34%, what would its
cost of equity capital with the new capital structure be?

7. Hey Guys!, Inc.
has debt with both a face and a market value of $3,000. This debt has a coupon
rate of 7% and pays interest annually. The expected earnings before interest
and taxes is $1,600, the tax rate is 34%, and the unlevered cost of capital is
10%. What is the firm’s cost of equity?

8. Given the following information how much will $1 of debt
increase firm value.
Corporate Taxes: 45%
Personal income tax rate: 35%
Personal income on equity: 25%



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