Suppose the Schoof Company has this book value balance sheet:
Current Assets: $30 million
Fixed Assets: $50 million
Total Assets: $80 million
Current Liabilities: $10 million
Long-Term Debt: $30 million
Common Stock (1 million shares): $1 million
Retained Earnings: $39 million
Total claims: $80 million
The current liabilities consist entirely of notes payable to banks, and the interest rate on this debt is 10%, the same as the rate on new bank loans. The long-term debt consists of 30,000 bonds, each of which has a par value of $1,000, carries an annual coupon interest rate of 6%, and matures in 20 years. The going rate of interest on new long-term debt, rd, is 10%, and this is the present yield to maturity on the bonds. The common stock sells at a price of $60 per share. Calculate the firm's market value capital structure.
Market Value of Common Equity = 60 per share * 1 million shares = 60 million
Market Value of Short term debt = 10 million * 10% / 10% = 10 million
(Since interest rate and discount ...
The problem illustrates how to calculate the capital structure of a firm based on market value of the debt and equity.