Question: Two firms U and L differ only in their capital structure. Firm U is unlevered with $1 billion in equity. Firm L has $500 million

Two firms U and L differ only in their capital structure. Firm U is unlevered with $1 billion in equity. Firm L has $500 million in equity and $500 million in perpetual debt. The cost of equity for Firm U is 10% and for Firm L is 13%. The before tax cost of debt is 7%. The net operating income (EBIT) for both firms is $100 million. The growth rate of both firms is zero, and all income available to stockholders is paid as dividends. Assume an M&M world with corporate taxes at 40%.

a. What is the market value of firm U?

b. What is the market value of firm L?

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