A firm faces a 21 percent tax rate and has $200m in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected EBIT is $10m. The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the firm's new ROE if they switch to the proposed capital structure?
A) 2.63 percent
B) 2.86 percent
C) 2.39 percent
D) 1.98 percent
Correct Answer:
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