a) General Corporation has 100 million outstanding shares with a share price of $5, and it has outstanding debt with a market value of $300 million. Investors expect a 6% return on debt and 12% return on stock. With the consideration of Modigliani and Miller (MM) Position II without tax, 

(i) if General Corporation issues new shares of $300 million to redeem all outstanding debt, what is the revised expected return of the stock? 

(ii) if General Corporation issues $100 million of new debts to repurchase 20 million of the stock, what is the revised expected return of the stock? 

 

b) Katy Corporation wants to have a weighted average cost of capital (WACC) of 10%. The cost of debt is 5%, the cost of equity is 12%, and the tax rate is 20%. There is no other capital except the mentioned debt and equity. With the given information, calculate the debt-equity ratio to achieve the targeted WACC. 

 

c) Jason Limited has 100 units of outstanding bonds with a coupon rate of 10%, in which the market price and the face value of each bond is $2,000. It is expected that the earnings before interest and tax (EBIT) of the firm would remain constant at $400,000 each year, and the unlevered cost of capital is at 20%. Calculate the firm value of Jason Limited with the consideration of Modigliani and Miller (MM) Proposition 1 with tax if the tax rate is 25%.

Answer rating: 100% (QA)

ai According to MM Position II without tax the expected return of the stock is unaffected by the capital structure of the company Therefore the revised expected return of the stock will remain at 12 i... View the full answer