Please show formulas and calculations and not just results and numbers, and explain rationale for answers. Whenever applicable, interest is compounded annually and payments occur at the end of the period. Face value for bonds is $1000.
Pershing has a tax rate of 30% and an EBIT of $50 million. The unlevered cost of capital is 14%.
1. What is the value of the unlevered firm? What is the cost of equity for the unlevered firm? What is the WACC of the unlevered firm?
2. Now suppose that Pershing issues $90 million in debt to buy back stock. The cost of debt is 8%. For the levered firm, find the value of the levered firm, the cost of equity and the WACC.