ABC Corporation is currently financed with 20% debt and 80% equity, both in mark

Question

ABC Corporation is currently financed with 20% debt and 80% equity, both in market value terms. The corporate income tax rate is 40%. Given the portfolio of assets currently managed by the firm a stream of perpetual EBIT in the amount of $15.333 million/annum is expected. Market participants perceived ABC corporation's long-term borrowing to be risk free. Since the firm's bonds are risk free you may assume that before-tax cost of debt is equal to risk free rate (2%). The firm's equity beta is 0.92. the 3-month treasury bill rate is 2%/annum and the expected return on the market portfolio is 12%. Determine the value of the ABC corporation (V-Levered) by using the WACC method.

Explanation / Answer

cost of equity= 2+ .92(12-2)= 11.2% Weight of equity= 80% Cost of debt= .02(1-.4)= 1.2% Weight of debt = 20% cost of capital= (.112x.8)+(.012x.2)= 9.2% value of the ABC corporation= 9.2%x15.333m = $1.4106m

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