PROBLEM 1 (10 points: 2 points for each part) A firm with no debt-financed financial leverage has 600,000 common shares trading at $30 per share. With its investment plan fixed, it is expected to generate a perpetual EBIT stream of $3 million per year. The corporate tax rate is 40%. The firm is contemplating issuing a $9 million face value perpetual bond carrying 5% coupon interest per year and using the proceeds to retire some of its stock outstanding. Ignoring personal taxes:

a. What will be the value of the firms equity after the change in its capital structure?

b. Suppose you hold 100 shares of the company before it was levered, what will be the capital gain on your shares after the company is levered?

c. What financial risk premium will be included in the firms cost of equity after the change in its capital structure?

d. What will be the firms WACC after the change in its capital structure?

e. What will be the firms value if the debt issued was half of the firms levered value?