2:

Asher Limited and JunYung Inc. are identical firms in all respects except for their capital structure. Asher is an all equity firm with $100,000,000 in stock. JunYung uses both stock and perpetual debt. JunYung has debt/equity ratio of 2/3 and on its debt it pays 7% interest per year. Both firms expect EBIT to be $15,000,000. Ignore taxes.

a. Ashley owns $100,000 worth of Asher Limited stock. What cash flow and the rate of return is she expecting?

b. Show how she could generate exactly the same cash flows and the rate of return by investing in JunYung Inc. and using homemade unleverage.

c. What is the cost of equity for Asher? For JunYung?

d. What is the rWACC for Asher? For JunYung? What is your conclusion?