Interest is compounded annually unless stated otherwise. Payments are at the end of the year unless...
Interest is compounded annually unless stated otherwise. Payments are at the end of the year unless stated otherwise. All bonds have a face value of $1000. Taxes are 0 unless specified otherwise.
3. Using market values, ABC has a debt ratio (debt/value) of .30. Equity has a return of 15% and debt is 4% and risk-free. The firm plans to issue equity to pay off debt. This will reduce the debt ratio to .15. The market risk premium is 10%. Find the return on equity after the capital structure change.
Homework Answers
Calculating Beta,
15 = 4 + Beta(10)
Beta = 11/10
Beta = 1.1
Unlevered Beta = 1.1/(1 + 0.30)
Unlevered Beta = 0.846
Calculating new levered beta,
New Beta = 0.846(1 + 0.15)
New Beta = 0.9729
Return on Equity = 4 + 0.9729(10)
Return on Equity = 13.73%
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