1. Rubberman Corporation, a manufacturer of consumer plastic products, is evaluating its capital structure. The balance sheet of the company is as follows (in millions):
Assets Liabilities
Fixed Assets $4000 Debt $2,500
Current Assets $1000 Equity $2,500
In addition, you are provided the following information:
(a) The debt is in the form of long term bonds, with a coupon rate of 10%. The bonds are currently rated AA and are selling at a yield of 12% (the market value of the bonds is 80% of the face value).
(b) The firm currently has 50 million shares outstanding, and the current market price is $80 per share. The firm pays a dividend of $4 per share and has a price/earnings ratio of 10.
(c) The stock currently has a beta of 1.2. The six-month Treasury bill rate is 8%.
(d) The tax rate for this firm is 40%.
I. What is the debt/equity ratio for this firm in book value terms? in market value terms?
II. What is the debt/(debt+equity) ratio for this firm in book value terms? in market value terms?
III. What is the firm's after-tax cost of debt?
IV. What is the firm's cost of equity?
V. What is the firm's current cost of capital?
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