Suppose you are hired by Tom the CEO of a large company to determine the firm's cost of capital. Tom told you that his company's stock sells for $50 per share and the dividend will be about $5 per share. He argues that the cost of equity is equal to 10% (=$5/50) because it costs $5 to use stockholders' money. Is Tom's statement correct and why?

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2. List three Modigliani-Miller assumptions and in a world without taxes. Are these assumptions reasonable in the real world?
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4. According to Modigliani-Miller with taxes, the value of the firm is maximized by taking on as much debt as possible. Can you find a real-world company (excluding financial institutions) with 100% or more debt financing? What are the challenges you may face when you run a company in the real world?
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Toms Cost of Equity Calculation and ModiglianiMiller Assumptions Toms statement No Toms statement is incorrect The cost of equity is not simply the di... View the full answer