You are considering a stock investment in one of two firms (AllDebt, Inc., and AllEquity, Inc.), both of which operate in the same industry and have identical EBITDA of $15.2 million and operating income of $10.0 million. AllDebt, Inc., finances its $40 million in assets with $39 million in debt (on which it pays 10 percent interest annually) and $1 million in equity. AllEquity, Inc., finances its $40 million in assets with no debt and $40 million in equity. Both firms pay a tax rate of 21 percent on their taxable income. Calculate the income available to pay the asset—funders’ investment—(the debt holders and stockholders) and resulting return on assets for the two firms. (Enter your dollar answers in millions of dollars. Round all answers to 3 decimal places.) AllDebt. AllEquity Income available for asset funders. million. million
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.
You are considering a stock investment in one of two firms (AllDebt, Inc., and AllEquity, Inc.), both of which operate in the same industry and have identical EBITDA of $15.2 million and operating income of $10.0 million. AllDebt, Inc., finances its $40 million in assets with $39 million in debt (on which it pays 10 percent interest annually) and $1 million in equity. AllEquity, Inc., finances its $40 million in assets with no debt and $40 million in equity. Both firms pay a tax rate of 21 percent on their taxable income.
Calculate the income available to pay the asset—funders’ investment—(the debt holders and stockholders) and resulting
AllDebt. AllEquity
Income available for asset funders. million. million
Return on asset-funders' investment. %. %
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