Suppose an unlevered firm with the following data:
Number of outstanding shares, N0 = 10 million
Share price, P0 = $10.00
The company cash flow at the end of the year depends on the market conditions as follows:
State of the economy Probability Cash flow in million USD Market return
Good----------------------60%--------130-------------------- 20%
Bad------------------------40%---------80-----------------------8%
Assume the CAPM holds. Calculate the unlevered beta and risk-free rate.
Now, suppose the company plans to issue debt to buy back shares as follows: The present value of debt, D = $60.00 million. Is the debt risk-free?
How many shares will the company be able to buy back? Calculate the beta and cost of capital of levered equity.