Answered step by step
Verified Expert Solution
Question
1 Approved Answer
3. Capital structure theory Aa Aa As a firm takes on more debt, its probability of bankruptcy faces a . Other factors held constant, a
3. Capital structure theory Aa Aa As a firm takes on more debt, its probability of bankruptcy faces a . Other factors held constant, a firm whose earnings are relatively volatile chance of bankruptcy. Therefore, when other factors are held constant, a firm whose earnings are relatively volatile should use debt than a more stable firm. When bankruptcy costs become more important, they the tax benefits of debt. Blue Ram Brewing Company currently has no debt in its capital structure, but it is considering using some debt and reducing its outstanding equity The firm's unlevered beta is 1.05, and its cost of equity is 12.40%. Because the firm has no debt in its capital structure, its weighted cost of capital (WACC) also equals 12.40%. The risk-free rate of interest (r) is 490, and the market risk premium (rm-r) is 8%. Blue Ram's marginal tax rate is 35% Blue Ram is examining how different levels of debt will affect its costs of debt and equity, as well as its WACC. The firm has collected the financial information that follows to analyze its weighted cost of capital (WACC). Complete the following table Before-Tax Cost of Debt (kd) Levered Beta (B) 1.05 Cost of Equity (ke) 12.40% 13.76% 16.08% Bond D/AE/A Ratio Ratio B/E Ratio WACC 12.40% 12.06% Rating 0.0 0.2 0.4 0.6 1.0 0.8 0.6 0.00 0.25 0.67 1.50 8.1% 8.5% 10.9% 13.9% 1.51 2.07 3.78 12.48% 0.2 34.24%
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started