Explore BrainMass
Share

Explore BrainMass

    Cost of Capital Problem

    This content was COPIED from BrainMass.com - View the original, and get the already-completed solution here!

    Current Balance Sheet
    Assets $100 Debt $10
    Equity $90

    Debt/Assets After-Tax Cost of Debt Cost of Equity Cost of Capital
    0% 8% 12% ?
    10% 8% 12% ?
    20% 8% 12% ?
    30% 8% 13% ?
    40% 9% 14% ?
    50% 10% 15% ?
    60% 12% 16% ?

    What is the firm's weighted-average cost of capital at various combinations of debt and
    equity, given the above information?
    cost of capita (k) = (weight) (cost of dept) + (weight) (cost of equity)
    k = (0) .08 + (0) .12 = 0 IS THIS CORRECT

    Construct a pro forma balance sheet that indicated the firms optimal capital structure.
    Compare this balance sheet with the firm's current balance sheet. What course of action
    should the firm take?

    Assets $100 Debt $ ?
    Equity $ ?

    As a firm initially substitues debt for equity what happens to the cost of capital, and why?

    If a firm uses too much debt financing, why does the cost of capital rise?

    How would I go about this problem?

    © BrainMass Inc. brainmass.com October 9, 2019, 6:25 pm ad1c9bdddf
    https://brainmass.com/economics/personal-finance-savings/cost-of-capital-problem-87917

    Attachments

    Solution Preview

    Current Balance Sheet
    Assets $100 Debt $10
    Equity $90

    Debt/Assets After-Tax Cost of Debt Cost of Equity Cost of Capital
    0% 8% 12% 12%
    10% 8% 12% 11.60%
    20% 8% 12% 11.20%
    30% 8% 13% 11.50%
    40% 9% 14% 12%
    50% 10% 15% 12.50%
    60% 12% 16% 13.60%

    What is the firm's weighted-average cost of capital at various combinations of debt and
    equity, given the above information?

    cost of capita (k) = (weight) (cost of debt) + (weight) (cost of equity)

    First, we need to know that ASSET = DEBT + EQUITY. Therefore, when Debt/Assets ...

    Solution Summary

    This solution is comprised of a detailed explanation to answer the request of the assignment in excel file.

    $2.19