Reference no: EM132641187

Scenario:

Incorporate the combined attributes of debt and equity given a cost of capital model.

The concept of after-tax Weighted Average Cost of Capital (WACC) is a common issue when studying finance at all levels. The impact of taxes, applicable to most forms of financing is a key component of studies in the field of finance. The Assessment questions will present the opportunity to assess and build upon your knowledge of and ability to calculate the after-tax WACC and the cost of debt and equity.

As an Angel Investor you have been asked to assess an entrepreneur's product and financing options. In your role as an Angel Investor you focus on one year at a time. The entrepreneur asks for $100,000 immediately to purchase a diagnostic machine for a healthcare facility. The entrepreneur hopes to be financed with 60 percent debt and 40 percent equity. As the entrepreneurs' venture capital partner, you assign a cost of equity of 15% and a cost of debt at 10%. You require a Return on Investment (ROI) of 8%. You are using an After Tax Weighted Average Cost of Capital (AT- WACC) model. A 35% marginal tax rate is applied Address the following checklist items:

Checklist:

Question 1: Explain the tax benefits of debt financing.

Question 2: Calculate the AT- WACC with a 60% debt and 40% equity financing structure.

Question 3: Apply the calculated AT-WACC to explain why this is or is not a viable investment for you as the Angel Investor.

Question 4: Explain what the entrepreneur's financial restructuring AT- WACC (% Debt and % Equity) need to be in order to have a positive ROI.

Question 5: Explain why you as the Angel Investor would require more or less debt versus equity financing. Be sure to note the nature of the claims on assets in times of a bankruptcy.