ABC Co.and XYZ Co.are identical firms in all respects except for their capital structure.ABC is all equity financed with $480,000 in stock.XYZ uses both stock and perpetual debt; its stock is worth $240,000 and the interest rate on its debt is 9 percent.Both firms expect EBIT to be $58,400.Ignore taxes.The cost of equity for ABC is _____ percent,and for XYZ it is ______ percent.
A)12.17; 12.68
B)12.17; 13.33
C)12.17; 15.33
D)12.29; 12.68
E)12.29; 13.33

Question

Quizplus · Accepted Answer

ABC: R_E = R_A = $58,400/$480,000 = 12.17 percentXYZ: R_E = 0.1217 + (0.1217 - 0.09) x (1) = 15.33 percentNote: ABC: Equity = $480,000XYZ: Equity = $240,000; Debt = $480,000 - $240,000 = $240,000; D/E = 1

ABC CoAnd XYZ Co