What is the equity holders rate of return

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Reference no: EM132788950

Questions -

Q1. XYZ corporation is completely owned by equity holders. It has 100 outstanding common shares. The stock is priced "fairly" at $20 per share. The CFO has chosen the best investment projects, which bring the firm a return of $3000 at t1.

(a) What is the firm's cost of capital?

(b) What is the price of the firm's stock at t1? At t1, the firm is not liquidated, because the CFO finds another profitable investment project. This new investment project can bring the firm a return of $5000 at t2.

At t1, the firm needs to finance another $1000 to do the new investment. It is either by all equity ($1000 more equity) or by all debt ($1000 debt with interest rate 10%). So, the CFO have two options to finance the new budget: the first option is by only equity and the second option is by both debts and equity.

(d) Consider the second financing option. What is the weighted average cost of capital of the firm?

(e) What are the weights of debts and equities if the CFO finances by the second option?

(f) What is the equity holders' rate of return?

Reference no: EM132788950

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