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Alpha and Beta Corporation are identical in every way except their capital structures. Alpha Corporation, an all-equity firm, has 5,000 shares of stock outstanding, currently
Alpha and Beta Corporation are identical in every way except their capital structures. Alpha Corporation, an all-equity firm, has 5,000 shares of stock outstanding, currently worth $20 per share. Beta Corporation uses leverage in its capital structure. The market value of Betas debt is $25,000, and its cost of debt is 12 percent. Each firm is expected to have earnings before interest of $35,000 in perpetuity. Neither firm pays taxes. Assume that every investor can borrow at 12 percent per year. Construct an investment strategy in which an investor purchases 20 percent of Alphas equity and replicates both the cost and dollar return of purchasing 20 percent of Betas equity
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