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Old 07-18-2010, 09:10 PM
alexp929 alexp929 is offline
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Join Date: Jul 2010
Location: washington
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Default help on homework

2 questions I need help on -

Question 1

Company ABC is an all equity firm, currently worth 100 million.

The cost of Equity is 20%
I can borrow at a much lower rate... (rate not given)
I have been told my borad that I can borrow 20 million and use the proceeds to buy back some stock in order to lower the cost of capital. Use WACC as a metric for decisioin. Tax rate=0

What is the Rwacc after buy back?
What is the value of the remaining equity after buy back?


Question 2

Company xyz has 1 billion market value. currently has no debt. Corporate tax rate = 40%.

The board authorizes the issuance of risk free debt and buy back some stock using all of the proceeds of debt. The board wnats the post-leverage capital structure to haave exactly 20% debt (B/VL=.2). you will make an annoucement to the shareholders about your plans to issue debt and buyback some stock.

a) how much debt will you need? (be carfule, as soon as the announcement is made the stock will go up to reflect the beenfts of debt. VL=Vu+TB. You need enough B to buy back 20% of VL.

b) suppose you owned $1,000 worth of shares before the announcement. what will be the value of you shares after megasoft is levered. Assume that you don't sell any shares.




Thanks for any help and explanantions of answers!
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