Fundamentals of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)

9th Edition

ISBN: 9781259722615

Author: Richard A Brealey, Stewart C Myers, Alan J. Marcus Professor

Publisher: McGraw-Hill Education

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Chapter 16, Problem 10QP

Leverage and the Cost of Capital. “Increasing financial leverage increases both the cost of debt (r_debt) and the cost of equity (r_equity). So the overall cost of capital cannot stay constant.” This problem is designed to show that the speaker is confused. Buggins Inc. is financed equally by debt and equity, each with a market value of $1 million. The cost of debt is 5%, and the cost of equity is 10%. The company now makes a further $250,000 issue of debt and uses the proceeds to repurchase equity. This causes the cost of debt to rise to 6% and the cost of equity to rise to 12%. Assume the firm pays no taxes.

a. How much debt does the company now have?
b. How much equity does it now have?
c. What is the overall cost of capital?

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Chapter 16, Problem 9QP

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Chapter 16 Solutions

Fundamentals of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)

Ch. 16 - Prob. 1QP Ch. 16 - Prob. 2QP Ch. 16 - Prob. 3QP Ch. 16 - Prob. 4QP Ch. 16 - Prob. 5QP Ch. 16 - Prob. 6QP Ch. 16 - Prob. 7QP Ch. 16 - Prob. 8QP Ch. 16 - Prob. 9QP Ch. 16 - Leverage and the Cost of Capital. Increasing...

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