Question
Homemade Leverage: You own 170 shares of Pathao, which is currently a 100% equity based company financed with 8000 shares outstanding. Each stock of pathao
- Homemade Leverage:
You own 170 shares of Pathao, which is currently a 100% equity based company financed with 8000 shares outstanding. Each stock of pathao currently sells for $40. The current EBIT is $40000. Pathao is currently debating whether they should convert into a 40% debt capital structure with 10% interest. Ultimately, they decided to stick to their 100% equity based capital structure. However, you personally prefer the 40% debt based capital structure. Use homemade leverage to covert your unlevered cash flow to levered cash flow. Share price will remain constant throughout. Ignore tax.
a) What will be your total earnings in both levered and unlevered capital structure?
b) How much new debt would you have to take? How many new shares would you have to buy?
- Sunlight Batteries has a 40% debt. Its required return on assets (WACC) is 12% and cost of debt is 8%. What is the companys cost of equity capital? If we increase debt to 55% what will be the new cost of equity. What will be weight of equity in sunlight if cost of equity is 20%. Assume we live in a world, where theres no tax. Explain MM proposition 2 (no tax; case 1).
- A firm has free cash flow of 3,500,000 USD. When the firm was unlevered it had a cost of equity of 9%. Then it went for permanent leverage by borrowing 500,000 USD at 8% interest rate. Corporate tax rate 40%. What is the WACC of the company? If FCF increase to 4 million next year, what will be the value of the company?
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