Reference no: EM132569714

CEO and CFO of company are planning to undergo a new project that requires investment of 5 million. They have following options to finance new project.

1. They use 100% equity finance (i.e. use retained earnings and issue new equity at current market prices. The distribution of new shares will be 50% C.S and 50% P.S)

2. Along with new stock they also borrow money from market to finance new project. Cost of debt are as follows

Size of Debt             Cost of Debt

25%                                    7%

35%                                      8%

50%                                       9%

60%                                       12%

Problem 1: What should be optimal capital structure of firm?

Problem 2: How inclusion of new project; at optimal capital structure, will effect overall position of firm. (Changes in Overall WACC)

If the new project is expected to earn 0.8 millions as EBIT (consider same tax and interest rate as above).

Problem 3: Find ROIC and ROE of new project.

Problem 4: Why inclusion of debt in capital structure increases risk for share holders?