1) Fells Cove uses no debt. The weighted average cost of capital is 10.4%. The current market value of equity is $25,000,000 and the corporate tax rate is 34%. What is EBIT?
2) You currently own 1200 shares of GSH Inc. GSH is an all equity firm that has 100,000 shares of stock outstanding and a market price of $42 per share. The company's EBIT are $780,000. You believe that GSH should finance 20% of assets with debt, but management refuses to leverage the company. Given that similar firms pay 6% interest on debt, a) how much money should you borrow to create the leverage on you own if you assume a 6% interest on borrowed funds? And b) How many additional shares of GSH do you need to purchase to create leverage on you own?
3) You currently own 800 shares of RBJ Inc. RBJ is an all equity firm that has 800,000 shares of stock outstanding with a market price of $36 per share. The company's EBIT are $6,200,000. RBJ has decided to issue $6,200,000 of debt at 10% interest. This debt will be used to repurchase shares of stock. Ignore taxes.
a) What is target debt to asset ratio? And b) How many shares of RBJ stock must you sell to undo the leverage if you can loan out funds at 10% interest?