Consider a simple firm that has the following market-value balance sheet: Assets Liabilities end equity $1 020 Debt $4
Posted: Thu May 19, 2022 7:01 am
Consider a simple firm that has the following market-value
balance sheet:
Assets
Liabilities end equity
$1 020
Debt
$400
Equity
620
Next year, there are two possible values for
its assets, each equally likely:
$1 190
and
$970.
Its debt will be due with
4.9%
interest. Because all of the cash flows from the assets must go
to either the debt or the equity, if you hold a portfolio of
the debt and equity in the same proportions as the firm's
capital structure, your portfolio should earn exactly the
expected return on the firm's assets. Show that a portfolio
invested
39%
in the firm's debt and
61%
in its equity will have the same expected return as the assets
of the firm. That is, show that the firm's pre-tax WACC
is the same as the expected return on its assets.
For a portfolio of
39%
debt and
61%
equity, the expected return on the debt will be
enter your response here%.
(Round to one decimal place.)
balance sheet:
Assets
Liabilities end equity
$1 020
Debt
$400
Equity
620
Next year, there are two possible values for
its assets, each equally likely:
$1 190
and
$970.
Its debt will be due with
4.9%
interest. Because all of the cash flows from the assets must go
to either the debt or the equity, if you hold a portfolio of
the debt and equity in the same proportions as the firm's
capital structure, your portfolio should earn exactly the
expected return on the firm's assets. Show that a portfolio
invested
39%
in the firm's debt and
61%
in its equity will have the same expected return as the assets
of the firm. That is, show that the firm's pre-tax WACC
is the same as the expected return on its assets.
For a portfolio of
39%
debt and
61%
equity, the expected return on the debt will be
enter your response here%.
(Round to one decimal place.)