Consider a simple firm that has the following market-value balance sheet: Assets Liabilities end equity $1 010 Debt $4
Posted: Sat Nov 27, 2021 5:16 pm
Consider a simple firm that has the following market-value
balance sheet:
Assets
Liabilities end equity
$1 010
Debt
$450
Equity
560
Next year, there are two possible values for
its assets, each
equally likely: $1 200 and $970. Its
debt will be due with 5.1% 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 45% in the firm's debt
and 55% 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 45% debt and 55% equity,
the expected return on the debt will be ____% ??
balance sheet:
Assets
Liabilities end equity
$1 010
Debt
$450
Equity
560
Next year, there are two possible values for
its assets, each
equally likely: $1 200 and $970. Its
debt will be due with 5.1% 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 45% in the firm's debt
and 55% 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 45% debt and 55% equity,
the expected return on the debt will be ____% ??