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What is the cost of equity of the unlevered firm

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Reference no: EM132423173

Problem: Unlev Inc., an unlevered firm, has perpetual expected earnings before interest and taxes of $6.6 million per year, a tax rate of 34.00% and a beta of 1.5. The risk-free rate is 3.75% and the market risk-premium is 5.50%. Management is considering buying some of its stock back through an issue of debt. The firm will be issuing 5,280 bonds at a coupon rate of 7.00%. The face value of a bond = $1,000. The bonds will be offered at par.

Required:

Question 1: What is the cost of equity of the unlevered firm?

Question 2: What is the value of the unlevered firm?

Question 3: What is the value of the levered firm?

Question 4: What is the levered firm's cost of capital?

Question 5: Which firm (levered or unlevered) has the highest value? Discuss how leverage affects the value of a firm and whether it is optimal for firms to maintain a 100% leverage structure?

Reference no: EM132423173

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