Question
A firm Midlands Shipyards has the following capital structure: Debt-equity ratio is 1 with 100 million shares outstanding and 100 million of debt. The firms
A firm Midlands Shipyards has the following capital structure: Debt-equity ratio is 1 with 100 million shares outstanding and 100 million of debt. The firms cost of equity is 10 percent and its equitys beta is 1.5. There is no tax, and the expected return on the market portfolio is 7 percent. Assuming that the firm can borrow at the risk free rate and that both CAPM (Capital Asset Pricing Model) and the Modigliani-Miller theorem hold, answer the following questions. i) What is the share price of Midlands? ii) What is the interest rate on the debt of Midlands? iii) What is the WACC of Midlands? iv) Suppose the firm changes its capital structure so that its equity increases by 20 million, and the debt decreases by 20 million. What should be the firms cost of equity after the change?
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