Additional Information for All Question: Return on market is 10%, return on T-bills is 4%, and...

60.1K

Verified Solution

Question

Finance

Additional Information for All Question: Return on market is10%, return on T-bills is 4%, and companies pay 40% corporate taxand 30% capital gains tax.
Greenleaf Inc. is a newly incorporated firm that requires $500million in capital; and is raising capital through debt and equityonly. The firm is comparing one of two options on capitalraising.
Option A: The firm raises $200million through issuing bonds and$300 million through issuing 600,000 (0.6million) ordinary shares.Each bond offers a semi annual coupons of $26.0485, has a par valueof $200, matures in 10 years, and offers a YTM of 10% to itsinvestors. The firm is to offer an expected dividend of $0 at theend of the first year, and offers ordinary shareholders a return of14.92% per year.
Option B: The firm raises a total of $500 million by issuing 1million bonds and 500,000 (0.5million) ordinary shares. Each bondcosts $250, offers semiannual coupons, has a par value of $200,matures in 10 years, and offer a YTM of 11% to its investors. Eachordinary share costs $500.
Q2. (a) All things being equal, does cost of debt or cost ofequity cost more?
(b) When a firm increases itsDebt/Equity ratio, how does its cost of debt, cost of equity andits beta change?
(C) Analyze options A and B Which of options A and B should bechosen by Greenleaf Inc.?

Answer & Explanation Solved by verified expert

4.1 Ratings (697 Votes)

Q2 a All things being equal does cost of debt or cost of equity cost more Debt is cheaper than equity Further interest payments on debt are tax deductible Hence post tax cost of debt is even further lower Lenders are assured of interest payments and repayments They are secured Hence they have lesser risks than equity holders As a result they are available See Answer

Get Answers to Unlimited Questions

Join us to gain access to millions of questions and expert answers. Enjoy exclusive benefits tailored just for you!

Membership Benefits:

Unlimited Question Access with detailed Answers
Zin AI - 3 Million Words
10 Dall-E 3 Images
20 Plot Generations
Conversation with Dialogue Memory
No Ads, Ever!
Access to Our Best AI Platform: Flex AI - Your personal assistant for all your inquiries!

Become a Member

Transcribed Image Text

Additional Information for All Question: Return on market is10%, return on T-bills is 4%, and companies pay 40% corporate taxand 30% capital gains tax.Greenleaf Inc. is a newly incorporated firm that requires $500million in capital; and is raising capital through debt and equityonly. The firm is comparing one of two options on capitalraising.Option A: The firm raises $200million through issuing bonds and$300 million through issuing 600,000 (0.6million) ordinary shares.Each bond offers a semi annual coupons of $26.0485, has a par valueof $200, matures in 10 years, and offers a YTM of 10% to itsinvestors. The firm is to offer an expected dividend of $0 at theend of the first year, and offers ordinary shareholders a return of14.92% per year.Option B: The firm raises a total of $500 million by issuing 1million bonds and 500,000 (0.5million) ordinary shares. Each bondcosts $250, offers semiannual coupons, has a par value of $200,matures in 10 years, and offer a YTM of 11% to its investors. Eachordinary share costs $500.Q2. (a) All things being equal, does cost of debt or cost ofequity cost more?(b) When a firm increases itsDebt/Equity ratio, how does its cost of debt, cost of equity andits beta change?(C) Analyze options A and B Which of options A and B should bechosen by Greenleaf Inc.?