DCM Corp. has annual cost of debt and common equity of RB = 8.0% and Rs...
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DCM Corp. has annual cost of debt and common equity of RB = 8.0% and Rs = 18.0%. It has 45,000 corporate bonds outstanding, valued at $987.62 each, and 36,500,000 common shares with a market value of $1.55 each. DCM's corporate tax rate is 35%. DCM Corp. exists in a Modigliani and Miller with corporate taxes. a) What is the cost of capital for DCM Cop. b) Draw and label a diagram (label both axes) showing the relationship of the cost of equity for the unlevered firm, the after-tax cost of debt, the cost of equity for the levered firm and the WACC in this M&M world. c) Suppose that in the M&M world describe, DCM Corp. decides to decrease financial leverage to zero, by moving to all-equity financing. Calculate DCM's new cost of capital? (Assume debt is essentially risk-free.) d) If the value of the firm is determined by the following equation: VL = VU+ TCB - B² where PVfinanacial distress costs = B2, and B is in millions of dollars, what would the optimal level of debt be (in millions of dollars, to 2 decimal places)? Verify that you have found the optimal level of debt Hint: The first derivative is: The second derivative is: VL V₁ = Tc - 2B VL" = -2 DCM Corp. has annual cost of debt and common equity of RB = 8.0% and Rs = 18.0%. It has 45,000 corporate bonds outstanding, valued at $987.62 each, and 36,500,000 common shares with a market value of $1.55 each. DCM's corporate tax rate is 35%. DCM Corp. exists in a Modigliani and Miller with corporate taxes. a) What is the cost of capital for DCM Cop. b) Draw and label a diagram (label both axes) showing the relationship of the cost of equity for the unlevered firm, the after-tax cost of debt, the cost of equity for the levered firm and the WACC in this M&M world. c) Suppose that in the M&M world describe, DCM Corp. decides to decrease financial leverage to zero, by moving to all-equity financing. Calculate DCM's new cost of capital? (Assume debt is essentially risk-free.) d) If the value of the firm is determined by the following equation: VL = VU+ TCB - B² where PVfinanacial distress costs = B2, and B is in millions of dollars, what would the optimal level of debt be (in millions of dollars, to 2 decimal places)? Verify that you have found the optimal level of debt Hint: The first derivative is: The second derivative is: VL V₁ = Tc - 2B VL" = -2
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Related Book For
Fundamentals of Financial Management
ISBN: 978-1337395250
15th edition
Authors: Eugene F. Brigham, Joel F. Houston
Posted Date:
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