Question
Alocir Co. pays 40% in corporate taxes and is financed by the common stock with N = 10, 000 shares outstanding trading at $22.50 per
Alocir Co. pays 40% in corporate taxes and is financed by the common stock with N = 10, 000 shares outstanding trading at $22.50 per share and by $375K of the risky perpetual debt. Alocir has only assets-in-place generating $15 of EBIT per share in perpetuity and does not grow. Let EPS stand for earnings per share, E for equity, and D for debt.
(i) The market Sharpe ratio is equal to 0.4. If the efficient portfolio with p = 0.8 and volatility, p, equal to 0.2, has a return of 13%, calculate the risk free rate, rf, and market risk premium, rM rf.
(ii) What is the value of Alocirs WACCL?
(iii) What is the value of the return on the Alocirs unlevered assets, rA?
(iv) What is the value of Alocirs VU?
(v) Assume that the CAPM holds for Alocirs assets, equity, and debt, that is, there exist A, E, and D, and these betas can be used together with rf and rM rf found in part (i) to calculate rA, rE, and rD, respectfully. The market risk of Alocirs equity is 5 times the market risk of Alocirs debt. What are the values of Alocirs rE and rD?
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