1. AFM Radio Inc.s equity has a book value of $25 million and a market value of $75 million. The market value of its debt is equal to the book value, $50 million. The companys pre-tax cost of debt is 10%. The companys stock has a beta of 1.5. Assume a corporate tax rate of 30%, a risk-free rate of 5%, and an expected market risk premium of 10%. (20 points)

(a) Whats the companys cost of equity, r_E?

(b) Whats the companys pre-tax WACC or r_A?

(c) Whats the companys after-tax WACC?

(d) Whats the beta of the companys debt, _D?

(e) Whats the companys asset beta, _A?

2. AFM Co. has a market value-based D/V ratio of 1/3. The expected return on the companys unlevered equity is 20%, and the pretax cost of debt is 10%. Sales for the company are expected to remain stable indefinitely at $25 million. Costs amount to 60% of sales. The corporate tax rate is 30%, and the company distributes all its earnings as dividends at the end of each year. The companys debt policy is to maintain a constant market value-based D/V ratio. (25 points)

(a) If the company were all equity financed, how much would it be worth?

(b) What is the expected rate of return on the firms levered equity?

(c) First, use the after-tax WACC approach to calculate the value of the entire company (V). Then compute the value of the companys equity (E) and the value of the companys debt (D).

(d) Use the APV approach to compute the value of the company. You will need to use some of the answers from part (c).