Basic Finance: An Introduction to Financial Institutions, Investments, and Management by Mayo Axia College of University of Phoenix (UoP)
FIN 370 Week Five (Week 5) Individual Assignments
INDIVIDUAL ASSIGNMENTS
1. Read the materials listed on for Week Five.
2. Prepare a response to problem 3 located in Chapter 21 of the Basic Finance: An Introduction to Financial Institutions, Investments, and Management text by Mayo.
a. What is the firm’s weighted-average cost of capital at various combinations of debt and equity, given the following information?
Debt/Assets After-Tax Cost of Debt Cost of Equity Cost of Capital
0% 8% 12% ?
10 8 12 ?
20 8 12 ?
30 8 13 ?
40 9 14 ?
50 10 15 ?
60 12 16 ?
b. Construct a pro forma balance sheet that indicates the firm’s optimal capital structure. Compare this balance sheet with the firm’s current balance sheet. What course of action should the firm take?
Assets $100 Debt $?
Equity $?
c. As a firm initially substitutes debt for equity financing, what happens to the cost of capital, and why?
d. If a firm uses too much debt financing, why does the cost of capital rise? SOLUTION
