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You have been provided the information on the after-tax cost of debt and cost of capital that a company will have at a 20% debt ratio, and asked to estimate the after-tax cost of debt and cost of capital at 40%. The long term treasury bond rate is 5%. 20% Debt Ratio 40% $ Debt $ 2,500 EBIT $ 2,000 Interest Expenses $ 132.5 Interest Coverage Ratio 15.09 Bond Rating AAA Interest Rate 5.30% After-tax Cost of Debt 3.445% Beta 1.60 16% Cost of Equity Cost of Capital 13.489% The interest coverage ratios, ratings and spreads are as follows: Coverage Ratio Rating Spread over Treasury > 10 AAA 0.30% 7-10 AA 1.00% 5 - 7 A 1.50% 3-5 BBB 2.00% 2-3 BB 2.50% 1.25 - 2 B 3.00% 0.75 -1.25 CCC 5.00% 0.50 - 0.75 CC 6.50% 0.25 -0.50 8.00% 0.25 D 10.00% O a. New cost of capital = 12.83% O b. New cost of capital = 19.33% O c. New cost of capital = 7.23% O d. New cost of capital = 9.83% You have been provided the information on the after-tax cost of debt and cost of capital that a company will have at a 20% debt ratio, and asked to estimate the after-tax cost of debt and cost of capital at 40%. The long term treasury bond rate is 5%. 20% Debt Ratio 40% $ Debt $ 2,500 EBIT $ 2,000 Interest Expenses $ 132.5 Interest Coverage Ratio 15.09 Bond Rating AAA Interest Rate 5.30% After-tax Cost of Debt 3.445% Beta 1.60 16% Cost of Equity Cost of Capital 13.489% The interest coverage ratios, ratings and spreads are as follows: Coverage Ratio Rating Spread over Treasury > 10 AAA 0.30% 7-10 AA 1.00% 5 - 7 A 1.50% 3-5 BBB 2.00% 2-3 BB 2.50% 1.25 - 2 B 3.00% 0.75 -1.25 CCC 5.00% 0.50 - 0.75 CC 6.50% 0.25 -0.50 8.00% 0.25 D 10.00% O a. New cost of capital = 12.83% O b. New cost of capital = 19.33% O c. New cost of capital = 7.23% O d. New cost of capital = 9.83%