Use the following information to answer the question 29-30 Mojito Mint company h

Question

Use the following information to answer the question 29-30

Mojito Mint company has a debt-equity ratio of .35. The required return on the company's unlevered equity is 12.8 percent, and the pretax cost of the firm's debt is 6.5 percent. Sales revenue for the company is expected to remain stable indefinitely at the last year's level of $17,500,000. Variable costs amount to 60 percent of sales. The tax rate is 40 percent, and the company distributes all its earnings as dividends at the end of each year.

If the company were financed entirely by equity, how much it be worth?

$32,812,500

$32,124,500

$31,221,500

$32,188,500

What's the firm’s weighted average cost of capital?

14.12%

11.47%

13.25%

17.18%

a.

$32,812,500

b.

$32,124,500

c.

$31,221,500

d.

$32,188,500

Explanation / Answer

a. If the company were financed entirely by equity, how much it be worth

Answer is a.$32,812,500

Worth is nothing but present value.Using Net Income Approach we will solve this.

b. What's the firm’s weighted average cost of capital?

For calculating WACC we have to find out cost of equity of levered firm.

Rs= Ro + (B/S) (Ro-Rb) (1-Tc)

=0.1280+[0.35*(0.128-0.065)*(1-0.4)]

= 0.1412 or 14.12%

$ Revenue       17,500,000 Less: Variable Cost 60% of sales       10,500,000 Contribution         7,000,000 Less: Tax 40%         2,800,000 Net operating Income         4,200,000 Divided by unlevered cost of equity             0.1280 Value of Firm       32,812,500

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