The Nexxt Co. is reviewing its capital structure. The firm currently has no debt outstanding. The firm has an EBIT of $150,000 per year, which is expected to stay constant forever. The corporate tax rate is 35%. The expected return on the firm’s assets is 15%. The firm is considering whether it would be worthwhile to raise $500,000 debt with a bond issue of 10%, to be sold at par. The proceeds of the issue would be paid in the form of a special dividend to the firm’s 10,000 shareholders.

1. What is the value of the firm if recapitalized, assuming that the debt issued will be maintained forever?

2. What is the value of the firm’s equity under recapitalization?

3. What is the expected return on equity if the firm recapitalizes?

4. What is the firm’s weighted average cost of capital after recapitalization?

5. What is the value of the firm by using its after-tax earnings stream of the firm using the post-recap WACC?

Answer rating: 100% (QA)

To answer the questions well use the following information EBIT 150000 per year Tax rate 35 Expected return on assets 15 Debt to be issued 500000 at 1... View the full answer