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Capital Structure Question 1: Savvy Supermarkets is a chain of grocery stores that is currently financed with 12.5% debt and 87.5% equity. The current rate of return of Savvy's equity is 16%, only slightly higher than the 14% currently expected on the stock market index. Suppose the risk free-rate is 6%, Savvy's debt has an expected return of 6%, and Savvy has 10 million shares outstanding for a price of $18 per share. For answering the following questions, please assume the Modigliani and Miller assumptions are correct and the CAPM is valid.

A. What is the equity beta and the debt beta of Savvy?

B. What is the cost of capital of Savvy?

C. The CEO of Savvy decides that the proportion of debt in the current capital structure is too low because investors in Savvy's stock demand a higher rate of return. Suppose the CEO wishes to realize a target expected stock return of 20% through leveraging (i.e., issuing additional debt) and paying the proceeds as a special dividend. How much additional debt should the company issue, assuming that all debt can be issued at an expected return equal to the risk-free rate?