CASE 2 (25 points)

Babylon Corporation has a debt-equity ratio of 1.50. Its WACC is 9 percent, and its cost of debt is 6 percent. The corporate tax rate is 21 percent.

Instructions:

a.What is the companys cost of equity capital?

b.What is the companys unlevered cost of equity capital?

c. What would the cost of equity be if the debt-equity ratio were 2? d.Discuss the effect of financial leverage.

e.Explain how to determine the optimal capital structure.

CASE 4 (25 points)

Felix Corporation has just gone public. Under a firm commitment agreement, Felix received 45 for each of the 446.6 million shares sold. The initial offering price was 47 per share, and the stock rose to 56.50 per share by the end of the first day of trading. Felix also paid 45.5 million in direct legal fees.

Rubrics

Descriptor

The student demonstrates an excellent understanding of the concepts.

The student demonstrates a good understanding of the concepts.

The student demonstrates a fair understanding of the concepts.

The student demonstrates some, but insufficient understanding of the concepts.

The student demonstrates insufficient understanding of the concepts and does not mention any relevant ideas or concepts.

The student leaves the question blank or cheats.

a. b. c. d. e.

What were the direct costs of the issue?

What were the costs of underpricing?

What were the total costs (direct costs plus underpricing) as a proportion of the market value of the shares? Discuss advantages and disadvantages of a company going public.

Explain why public companies may wish to go private.