Reference no: EM133073043

A firm is trying to decide on the structure of its debt financing. Based on capital structure considerations, the firm has decided to utilize a total of $10 million in total debt. It expects to have $1 million in unavoidable short-term funding and $5 million in existing long-term debt which it does not wish to refund. The total amount of debt to be structured is thus $4 million. Two alternatives are being considered. In alternative A, the firm would issue $1.5 million in long-term, fixed-rate debt and 2.5 million in short-term, floating-rate debt. In alternative B, the firm would issue $3 million in long-term, fixed-rate debt and $1 million in short-term. floating-rate debt. In either case, the interest rate on long-term debt will be 10 percent. The estimated probability distribution of interest rates on short-term debt for the upcoming year is: 

The firm is in the 35 percent tax bracket. For the upcoming year, compute the standard deviation of after-tax interest expense on the $4 million in new interest-bearing debt for each of the alternative structures.

Reference textbook: Modern Working Capital Management Text and Cases (Frederick C. Scherr) , Chapter 10 (The Firm's Level of Aggregate Liquidity)