Jeff Dougherty, $01$airman of the Board of Mil & Mod Incorporated, wishes to know

how a change in capital structure would affect the value of the firm's equity and the

firm's weighted average cost of capital. Currently, Mil & Mod is an all$-$equity firm and

expects EBIT to be around $$151\mathrm{.}52$ million per year in perpetuity. The company

currently pays a marginal tax rate of $34\%$ and the unlevered cost of capital is $20\%.$

Dougherty is trying to calculate the impact of a $$500$ million increase in debt, which

can be obtained at an interest rate of $10\%.$

Using M&M proposition I with taxes, calculate the value of the firm and its equity

after including debt.

Using M&M Proposition $11$ with taxes, calculate the value of the firm's cost of

equity capital and the firm's WACC

Using pecking$-$order theory, explain why companies prefer internal financing over

external forms of financing