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Using the following information, write a one page narrative of what is found in the information below: Please include answers to these two questions in

Using the following information, write a one page narrative of what is found in the information below:

Please include answers to these two questions in the narrative.

Which firm would have the higher expected return between the unlevered equity holder and the levered equity holder? (show all the team calculations in arriving at the final answer).

2. How does the risk and cost of capital of levered equity compare to that of unlevered equity? Which is the superior capital structure choice for a perfect capital market, and why?

Expected CashFlow =.50(Weak Cash Flows)+.50(strong Cash Flows)
Expected CashFlow 103,500.00
NPV $ 9,224.14 =-B6+(B2/(1+B7+B8))
The investment has a positive NPV
PV $ 89,224.14 =+B2/(1+B9)
Cash Flow-weak economy 90,000.00
Cash Flow-strong economy 117,000.00
Initial Investment 80,000.00
Cost of Capital 16.00%
Risk-free Rate 5.00%
Cash Flows and Returns for Unlevered Equity
Date 1: Cash Flow Date 1: Return
Strong Weak Strong Weak
NPV $ 9,224.14
PV $ 89,224.14 117,000.00 90,000.00 31.13% 0.87%
Values & Cash Flows for Debt & Equity of the Levered Firm (Table 14.3)
Date 0 Date 1: Cash Flow
Initial Value Strong Economy Weak Economy
Debt 45,000 47,250 47,250
Levered equity 69,750 42,750
Firm 89,224 117,000 90,000
Returns to Equity with and without Leverage (Table 14.4)
Date 0 Date 1: Cash Flow Date 1: Returns
Initial Value Strong Economy Weak Economy Strong Economy Weak Economy Expected Return
Debt 45,000 47,250 47,250 5.00% 5.00% 5.00%
Levered Equity 44,224 69,750 42,750 57.72% -3.33% 27.19%
Unlevered equity 89,224 117,000 90,000 31.13% 0.87% 16.00%
Systematic Risk and Risk Premiums for Debt, Unlevered Equity, and Levered Equity (Table 14.5)
Return Sensitivity (Systematic Risk) Risk Premium
Debt 0.00% 0.00%
Levered Equity 61.05% 0.00% 11.00%
Unlevered Equity 30.26% -15.13% 22.19%

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