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ABC is an unleveraged firm, and it had a constant EBIT of $2

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ABC is an unleveraged firm, and it had a constant EBIT of $2 million a year. The tax rate is 40% and its market value is $12 million. Debt is considered to buy back stock. The present value of financial distress costs are $8 million. and the probability of distress would increase with leverage according to the following: $2,500,000 of debt - 0%, $5 million - 1.25%, $7.5 million - 2.5%, $10 million - 6.25%, $12.5 million - 12.5%, $15 million - 31.25%, and $20 million - 75%.

(a) what is the firm's cost of equity and weighted average cost of capital at this time? (b) according to the pure MM with-tax model, what is the optimal level of debt? (c) What is the optimal capital structure when financial distress costs are included?

Working from home and trying to get this assignment done. it's horrid....thanks again for your help.

K

Customer:replied 7 years ago.

Good morning,

Check this out, let me know if this is something you can contend with...submitting now. Do these get filtered to you directly? Let me know. I'm not sure how this works....