Repurchasing Shares to Change Capital Structure

This is an example of a firm with $100\%$ equity, A $=$ E$.$ Firm currently has $100,000$ shares of

common stock outstanding, with a price of $$20.$ The EBIT for the firm will be $$500,000.$ The

marginal tax rate for the firm is $40\%.$ All earnings are paid out in the form of dividends.

Therefore, there is no growth for the firm and the stock price is determined by DPS $\frac{?}{k_s}.$

The firm must borrow in increments of $$400,000,$ with a maximum debt level of $$1,600,000.$

The increases to the cost of debt and the cost of equity increases with debt is as follows:

Sell bonds and repurchase common stock with proceeds.

How many shares can we repurchase with issuing debt?

With debt EBIT will now be reduced by interest expense and taxes will also be reduced.

The issuance of debt changes EPS and $k_S($the required rate of return for investors$).$

What is the New price of stock?

DPS $=$

Stock Price

What is the optimal capital structure?

Debt Level Shares Out Market Equit

$R_d{?}_{,}DP{S}_{?}$

$R_e{?}_{,}{P}_0{?}_{?}$

WACC$\frac{D}{E}{?}_{(})$