Two firms Unlev and Lev differ only in their capital structure.  Unlev has a market value of $20,000, with no debt, whilst Lev has employed $11,000 in debt at the risk-free interest rate of 4% per annum.  The expected net operating income of both firms is $5,000 per annum in perpetuity, and the corporate tax rate is 30%.

 i)  Show that the market value of the equity of Lev is $12,300.

ii)  Calculate the equity holder's after-tax required rate of return for both firms.

Answer rating: 100% (QA)

To calculate the market value of the equity of Lev we need to subtract the value of debt from the ma... View the full answer