Question

Problem 22-10

 The financial manager has determined the following schedules for the cost of funds: 

 a. Determine the firm's optimal capital structure. Round your answer to two decimal places.

 The optimal capital structure consists of _______ debt resulting in the cost of capital equal to _______ 

 

 b.Construct a simple pro forma balance sheet that shows the firm's optimal combination of debt and equity for its current level of assets. Round your answers to the nearest dollar. 

 c. An investment costs $500 and offers annual cash inflows of $108 for six years. Should the firm make the investment? Use Appendix D to answer the question. Round your answer to the nearest whole number. The investment _______  be made since the internal rate of return that is _______  % _______ the cost of capital.

 d. If the firm makes this additional investment, how should its balance sheet appear? Round your answers to the nearest dollar. 

 e. If the firm is operating with its optimal capital structure and a $500 asset yields 20.0 percent, what return will the stockholders earn on their investment in the asset? Round your answer to two decimal places.

Answer 1

1-
debt ratio	cost of debt	equity ratio =(1-debt ratio)	cost of equity	WACC = (weight of debt*cost of debt)+(weight of equity*cost of equity)
0%	6%	100%	11%	11.00%
10%	6%	90%	11%	10.50%
20%	6%	80%	11%	10.00%
30%	6%	70%	11%	9.50%
40%	6%	60%	12%	9.60%
50%	8%	50%	13%	10.50%
60%	9%	40%	14%	11.00%
30% debt resulting in the cost of capital equal to 9.50%
2-	Balance Sheet
Assets	400	Debt =400*30%	120
		equity =400*70%	280
total	400	total	400
3-	Year	cash flow
	0	-500
	1	108
	2	108
	3	108
	4	108
	5	108
	6	108
	IRR =Using IRR function in MS excel	IRR(H213:H219)	7.95%
	The investment should not be made since the internal rate of return that is 7.95%, which is lesser than the cost of capital
4-	Balance Sheet
Assets	900	Debt =900*30%	270
		equity =900*70%	630
total	900	total	900
5-	Yield on Investment or operating income = 500*20%	100
	less interest =(500*30%)*6%	9
	income to equity shareholders	91
	total of equity	350
	return to stockholders =91/350	26.00%