Eastern Digital Technology (Eastern Digital) is a leading hard disk drive (HDD) manufacturer in Asia. The company wants to acquire Sand Disk Corporation (Sand Disk), a fast growing solid-state drive (SSD) producer in Asia. The management of Eastern Digital believes that acquiring Sand Disk can bring handsome revenue to the company in future.

As a business analyst in the Eastern Digital, you have been asked by the board to determine an appropriate discount rate to evaluate the proposed acquisition. From your studies in FIN B280, you think the first step is to identify the Weighted Average Cost of Capital (WACC) of the target company. With some research, you have obtained the following capital structure information of Sand Disk:

Sand Disk Corporation Capital Structure Information:

i. 12,000,000 shares of common stock with a par value of $1.0, and a current price of $6 per share.

ii. 5,000,000 shares of 9% preferred stock with a par value of $4, and a current price of $4.80.

iii. 20,000 units of 5-year, 11.70% p.a. coupon bonds with semi-annual interest payment. The bond has exactly four years to maturity with a par value of $1,000. The current quotation of this bond is 120.00, which means 12% of its par value. Bonds with similar risk, interest term and maturity are currently selling at 6.00% p.a. yield to maturity.

iv. A $40,000,000 long-term bullet payment loan with Bank of Kennedy. The loan was borrowed eight months ago with a 4.3% p.a. borrowing rate. The market value of this bank loan is unknown.

v. The expected market return is 9% and the risk-free rate is 3%. The beta of Sand Disks common stock is 1.5. The company falls into the 25% marginal tax bracket.

Answer all of the following 3 questions a, b, c completely must! And show all of works: (Please do not answer the questions if you are Anjoo Prasad or Choudhary)

a. What is the capital structure of Sand Disk on a market value basis?

Please make assumptions in your calculation, if necessary.

b. Evaluate the weighted average cost of capital (WACC) of Sand Disk.

c. Given that the firm uses only debt and equity financing and further given that the risk of financing will be increased by increasing the financing amount, do you agree that an increase in debt financing will increase the overall risk of the firm (i.e. WACC or RA) and therefore decrease the value of the firm?