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  3. 5) (25 points) abc company and xyz company have id

5) (25 points) ABC company and XYZ company have identical assets and currently they both...

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Accounting

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5) (25 points) ABC company and XYZ company have identical assets and currently they both have a debt- equity ratio of 1. Both companies have a cost of riskless debt of 4% and return on equity of 20%. Expected rate of return on market portfolio is 14% and firms are not subject to any taxes in this economy. a) ABC company decides to change its debt-equity ratio to 0.5 by issuing equity and retiring debt. What is its cost of equity after capital restructuring? b) XYZ company decides to change its debt-equity ratio to 2 by issuing debt and retiring equity. At this point, debt becomes risky and has a beta of 0.xx, where xx is the last two digits of your student number. What is its cost of equity after capital restructuring? (Hint: You can use CAPM to estimate cost of risky debt)

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