5. You are in a perfect capital market setting. As CFO of XYZ Corporation, you a

Question

5. You are in a perfect capital market setting. As CFO of XYZ Corporation, you are asked to comment on how you can reduce the firm

Explanation / Answer

a> WACC 20 Debt 50% and Equity 50% Cost of Debt 3 Let the cost of Equity=X So, 0.5*3+0.5*X=20 or,0.5X=20-1.5=18.5 or X=18.5/0.5=37 b>Value of the Debt=(80/2)m 40m Value of the equity(80m-40m) 40m c>Total Equity=40+20 60m Total Debt=40-20 20m Value of the firm 60m d> (20/80)*3+(60/80)*X=12 or 0.25*3+0.75X=12 or X=(12-0.25*3)/0.75=15 New cost of equity=15% e>Stock holders wealth increases as the cost of equity decreased.

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