# Currently, Forever Flowers Inc. has a capital structure consisting of 25% debt and 75% equity. Forever's debt

## Question:

Currently, Forever Flowers Inc. has a capital structure consisting of 25% debt and 75% equity. Forever's debt currently has a 7% yield to maturity. The risk-free rate (r_{n}) is 6%, and the market risk premium (r_{M} — r_{e}d is 7%. Using the CAPM, Forever estimates that its cost of equity is currently 14.5%. The company has a 25% tax rate.

**a.** What is Forever's current WACC?

**b**. What is the current beta on Forever's common stock?

**c.** What would Forever's beta be if the company had no debt in its capital structure?

Forever's financial staff is considering changing its capital structure to 40% debt and 60% equity. If the company went ahead with the proposed change, the yield to maturity on the company's bonds would rise to 10.5%. The proposed change will have no effect on the company's tax rate.

**d.** What would be the company's new cost of equity if it adopted the proposed change in capital structure?

**e.** What would be the company's new WACC if it adopted the proposed change in capital structure?

**f.** Based on your answer to part e, would you advise Forever to adopt the proposed change in capital structure? Explain.

## Step by Step Answer:

**Related Book For**

## Fundamentals Of Financial Management

**ISBN:** 9781337902571

Concise 10th Edition

**Authors:** Eugene F. Brigham, Joel F. Houston