Currently, Forever Flowers Inc. has a capital structure consisting of 25% debt and 75% equity. Forevers debt

Question:

Currently, Forever Flowers Inc. has a capital structure consisting of 25% debt and 75% equity. Forever’s debt currently has a 7% yield to maturity. The risk-free rate (r_RF) is 6%, and the market risk premium (r_M – r_RF) is 7%. Using the CAPM, Forever estimates that its cost of equity is currently 14.5%. The company has a 40% tax rate.
a. What is Forever’s current WACC?
b. What is the current beta on Forever’s common stock?
c. What would Forever’s beta be if the company had no debt in its capital structure? (That is, what is Forever’s unlevered beta, b_U?) Forever’s financial staff is considering changing its capital structure to 40% debt and 60% equity. If the company went ahead with the proposed change, the yield to maturity on the company’s bonds would rise to 10.5%. The proposed change will have no effect on the company’s tax rate.
d. What would be the company’s new cost of equity if it adopted the proposed change in capital structure?
e. What would be the company’s new WACC if it adopted the proposed change in capital structure?
f. Based on your answer to part e, would you advise Forever to adopt the proposed change in capital structure? Explain.

Capital Structure
Capital structure refers to a company’s outstanding debt and equity. The capital structure is the particular combination of debt and equity used by a finance its overall operations and growth. Capital structure maximizes the market value of a... Cost Of Equity
The cost of equity is the return a company requires to decide if an investment meets capital return requirements. Firms often use it as a capital budgeting threshold for the required rate of return. A firm's cost of equity represents the... Maturity
Maturity is the date on which the life of a transaction or financial instrument ends, after which it must either be renewed, or it will cease to exist. The term is commonly used for deposits, foreign exchange spot, and forward transactions, interest...

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