Question

15. What is the debt ratio (i.e., the weight of debt) that has outstanding $15 million in bonds and equity with a market value of $35 million?

a. 35%

b. 43%

c. 30%

d. 15%

16. Let's say a firm has $5,500 of bonds and $11,000 of common stocks. You find the after-tax cost of debt for this firm equals 6%, and the cost of its common stock is 16%. Question: what is the firm's weighted average cost of capital?

a. 12.67%

b. 14.67%

c. 13.33%

d. 9.33%

17. Which of the following is able to explain why debt financing includes a tax shield?

a. Taxes are reduced by the amount of the interest.

b. Taxable income is reduced by the amount of the debt.

c. Taxable income is reduced by the amount of interest.

d. Taxes are reduced by the amount of the debt.

18. If Virusfree Inc's stock sells for $40, pays a $4.25 dividend, and the stock is expected to grow at a constant rate of 5%, which one of the following would be the estimated cost of equity?17. Which of the following is able to explain why debt financing includes a tax shield?

a. 15.63%

b. 17.46%

c. 14.52%

d. 12.69%

Answer 1

Pb 15 :

Debt Ratio = Debt / [ Debt + Equity ]

= $ 15M / [ $ 15M + $ 35 M ]

= $ 15 / $ 50 M

= 30%

Pb 16:

WACC is weighted Avg cost of sources in capital structure

Source	Weight	Cost	Wtd Cost
Debt	0.3333	6.00%	2.00%
Equity	0.6667	16.00%	10.67%
WACC			12.67%

Pb 17:

Int amount is above line item in P& L and Tax to ba paid on Int will provide tax shield.

OPtion C is correct.

Pb 18:

Required Ret = [ D1 / P0 ] + g

= [ $ 4.25 / $ 40 ] + 5%

= 0.1063 + 0.05

= 0.1563 i.e 15.63%

Pls comment, if any further assistance is required.