Cost Of Capital

3. A firms flow rate balance stable gear is as follows:
Assets $100 Debt $10
Equity $90
a. What is the firms weighted-average exist of neat at various combinations of debt and law, given the following information?

Debt/Assets After-Tax Cost of Debt Cost of Equity Cost of Capital
0% 8% 12% 12%
10% 8% 12% 11.60%
20% 8% 12% 11.20%
30% 8% 13% 11.50%
40% 9% 14% 12%
50% 10% 15% 12.50%
60% 12% 16% 13.60%
b. Construct a pro forma balance sheet that indicates the firms optimal capital structure. Compare this balance sheet with the firms current balance sheet. What course of action should the firm take?





optimal Balance Sheet
|Assets |$100 |Debt |$20 |
| | |Equity |$80 |

genuine Balance Sheet
|Assets |$100 |Debt |$10 |

Equity $90
The firm should absorb $10 from its creditors in order to obtain $10 of its line of business issued; which would align the firm up to have the optimal structure.
c. As a firm initially substitutes debt for faithfulness financing, what happens to the cost of capital, and wherefore?
The cost of capital initially decreases as the firm substitutes debt for equity financing. This occurs because the initial out suppuration of the cost of borrowing is less that the growth of the cost of equity.
d. If a firm uses too much debt financing, why does the cost of capital rise?
The cost of capital result increase of the firm used too much debt. This occurs because the growth of the cost of borrowing is more than the growth of the cost of equity at certain levels of financing.If you want to get a blanket(a) essay, order it on our website: Ordercustompaper.com



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