Foundations of Financial Management
16th Edition
ISBN: 9781259277160
Author: Stanley B. Block, Geoffrey A. Hirt, Bartley Danielsen
Publisher: McGraw-Hill Education
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Textbook Question
Chapter 11, Problem 20P
Evans Technology has the following capital structure:
The aftertax cost of debt is 6 percent, and the
a. What is the firm’s weighted average cost of capital?
b. An outside consultant has suggested that because debt is cheaper than equity, the firm should switch to a capital structure that is 50 percent debt and 50 percent equity. Under this new and more debt-oriented arrangement, the aftertax cost of debt is 7 percent, and the cost of common equity (in the form of retained earnings) is 15 percent. Recalculate the firm’s weighted average cost of capital.
c. Which plan is optimal in terms of minimizing the weighted average cost of capital?
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Students have asked these similar questions
Given the following, determine the firm’s optimal capital structure:
Debt/Assets
After-Tax Cost of Debt
Cost of Equity
0
%
6
%
11
%
10
7
11
20
7
12
30
7
13
40
9
13
50
10
13
60
13
14
Round your answers for capital structure to the nearest whole number and for the cost of capital to one decimal place.
The optimal capital structure: % debt and % equity with a cost of capital of %
If the firm were using 60 percent debt and 40 percent equity, what would that tell you about the firm’s use of financial leverage? Round your answer for the cost of capital to one decimal place.
If the firm uses 60% debt financing, it would be using financial leverage. At that combination the cost of capital is %. The firm could lower the cost of capital by substituting .
What two reasons explain why debt is cheaper than equity?
Debt is cheaper than equity because interest expense . In addition, equity investors bear risk.
If the firm were…
Evans Technology has the following capital structure.
Debt
Common equity
The aftertax cost of debt is 8.50 percent, and the cost of common equity (in the form of retained earnings) is 15.50 percent.
a. What is the firm's weighted average cost of capital?
Note: Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.
48%
60
Debt
Common equity
Weighted average cost of capital
Weighted Cost
%
%
An outside consultant has suggested that because debt is cheaper than equity, the firm should switch to a capital structure
that is 50 percent debt and 50 percent equity.
Under this new and more debt-oriented arrangement, the aftertax cost of debt is 9.50 percent, and the cost of common equity
(in the form of retained earnings) is 17.50 percent.
b. Recalculate the firm's weighted average cost of canital
Suppose that AXA currently has no debt and has an equity cost of capital of 12%. AXA is considering borrowing funds at a cost of 6% and using these funds to repurchase existing shares of stock. Assume perfect capital markets. If AXA borrows until it achieved a debt‐to‐equity ratio of 1/2, then AXAʹs levered cost of equity would be closest to:
A.
18.0%
B.
6.0%
C.
15.0%
D.
10.0%
Chapter 11 Solutions
Foundations of Financial Management
Ch. 11 - Why do we use the overall cost of capital for...Ch. 11 - How does the cost of a source of capital relate to...Ch. 11 - Prob. 3DQCh. 11 - Why is the cost of debt less than the cost of...Ch. 11 - What are the two sources of equity (ownership)...Ch. 11 - Explain why retained earnings have an associated...Ch. 11 - Why is the cost of retained earnings the...Ch. 11 - Why is the cost of issuing new common stock Kn...Ch. 11 - How are the weights determined to arrive at the...Ch. 11 - Explain the traditional, U-shaped approach to the...
Ch. 11 - Prob. 11DQCh. 11 - What effect would inflation have on a company’s...Ch. 11 - What is the concept of marginal cost of capital?...Ch. 11 - In March 2010, Hertz Pain Relievers bought a...Ch. 11 - Speedy Delivery Systems can buy a piece of...Ch. 11 - Prob. 3PCh. 11 - Prob. 4PCh. 11 - Calculate the aftertax cost of debt under each of...Ch. 11 - Prob. 6PCh. 11 - Prob. 7PCh. 11 - Prob. 8PCh. 11 - Airborne Airlines Inc. has a $1,000 par value bond...Ch. 11 - Russell Container Corporation has a $1,000 par...Ch. 11 - Prob. 11PCh. 11 - KeySpan Corp. is planning to issue debt that will...Ch. 11 - Medco Corporation can sell preferred stock for $90...Ch. 11 - Wallace Container Company issued $100 par value...Ch. 11 - Prob. 15PCh. 11 - Murray Motor Company wants you to calculate its...Ch. 11 - Compute KeandKn under the following...Ch. 11 - Business has been good for Keystone Control...Ch. 11 - Prob. 19PCh. 11 - Evans Technology has the following capital...Ch. 11 - Sauer Milk Inc. wants to determine the minimum...Ch. 11 - Given the following information, calculate the...Ch. 11 - Prob. 23PCh. 11 - Prob. 24PCh. 11 - Prob. 25PCh. 11 - Prob. 26PCh. 11 - Delta Corporation has the following capital...Ch. 11 - The Nolan Corporation finds it is necessary to...Ch. 11 - The McGee Corporation finds it is necessary to...Ch. 11 - Eaton Electronic Company’s treasurer uses both...Ch. 11 - Compute the $ change in “Total Assets� over...Ch. 11 - Do the same computation for “Stockholders’...Ch. 11 - Do the same computation for “Long-Term Debt.�Ch. 11 - Prob. 5WE
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