Problem 15-3 Capital Structure and Growth Edwards Construction currently has deb
ID: 2657371 • Letter: P
Question
Problem 15-3 Capital Structure and Growth
Edwards Construction currently has debt outstanding with a market value of $440,000 and a cost of 7 percent. The company has an EBIT of $30,800 that is expected to continue in perpetuity. Assume there are no taxes.
a. What is the value of the company’s equity and the debt-to-value ratio? (Do not round intermediate calculations. Leave no cells blank - be certain to enter "0" wherever required. Round your debt-to-value answer to 3 decimal places, e.g., 32.161.)
b. What is the equity value and the debt-to-value ratio if the company's growth rate is 2 percent? (Do not round intermediate calculations. Round your equity value to 2 decimal places, e.g., 32.16, and round your debt-to-value answer to 3 decimal places, e.g., 32.161.)
c. What is the equity value and the debt-to-value ratio if the company's growth rate is 4 percent? (Do not round intermediate calculations. Round your equity value to 2 decimal places, e.g., 32.16, and round your debt-to-value answer to 3 decimal places, e.g., 32.161.)
Explanation / Answer
a. What is the value of the company’s equity and the debt-to-value ratio?
Cash Flow for Shareholder =0
Value of Equity =0
Hence Debt to value =440000/440000=1
b. What is the equity value and the debt-to-value ratio if the company's growth rate is 2 percent?
Payment to shareholders=616
Value of Equity =616/(7%-2%)=$12320
The Debt/Value Ratio = $440000/[$440000 + $12320]=97.28%
c. What is the equity value and the debt-to-value ratio if the company's growth rate is 4 percent?
ayment to shareholders=1232
Value of Equity =1232/(7%-4%)=$4106.67
The Debt/Value Ratio = $440000/[$440000 + $4106.67]=91.46%
EBIT 30800 interest payments=440000*.07 30800 Profit before Tax 0