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The Rivoli Company has no debt outstanding, and its financial position is given by the following data:
Assets (Market Value=Book Value) = $3,000,000
EBIT = $500,000
Cost of Equity = 10%
Stock Price = $15
Shares Outstanding = 200,000
Tax Rate (Federal + State) = 40%
The firm is considering sellings bonds and simultaneously repurchasing some of its stock. If it moves to a capital structure with 30% debt based on market values, its cost of equity will increase to 11% to reflect the increased risk. Bonds can be sold at a cost of 7%. Rivoli is a no-growth firm. Hence, all its earnings are paid out as divdends. Earnings are expected to be constant over time.
Question: What would be the new value of the firm?
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