Suppose company ABC will be worth either 250 M or 150 M depending on whether the economy is strong (with 60% probability) or weak (with 40% probability) in one year, t=1. The current risk-free rate is 4% and the cost of equity if the company is 100% equity financed is 15%. Assume perfect world.

1. (4 points) What is the maximum amount ABC can borrow (at t=0) under 4% interest rate? Calculate and explain briefly
2. (4 points) What would be the companys debt-to-value ratio if ABC borrows the amount you found in a)
3. (10 points) Determine interest rate (cost of debt) at which ABC could borrow $150 M
4. (6 points) On the debt-to-value-ratio (as X) and Expected rate of return (as Y) plane draw graphs of r_wacc, r_E, and r_d. Be specific. On the graph please indicate all the known values of r_wacc, r_E, and r_d , indicate D/V value after which r_d starts to increase

To graph r_wacc, r_E, and r_d you may:

• use Excel and upload your worksheet
• use grid paper and include scan of your graph