The cost of equity: What is Millennium's value after the debt issuance?

Question

Quizplus · Accepted Answer

To find Millennium's value after the debt issuance, we need to calculate the total value of the company which is the sum of the value of equity and the value of debt.

From the first part of the question, we know that the value of equity is $4,000 and the cost of equity is 12%.

Using the formula for cost of equity, we can calculate the equity required rate of return:
Required rate of return = Risk-free rate + Beta*(Market rate of return - Risk-free rate)
= 4% + 1.2*(10% - 4%)
= 4% + 1.2*6%
= 4% + 7.2%
= 11.2%

Next, we need to calculate the value of debt. The question tells us that the company issued $2,000 in debt at a 8% interest rate.

Using the formula for present value of a single amount, we can calculate the value of debt:
Value of debt = $2,000 / (1 + 8%) 
= $2,000 / 1.08 
= $1,851.85

Now we can calculate the total value of the company:
Total value = Value of equity + Value of debt
= $4,000 + $1,851.85
= $5,851.85

Therefore, the closest answer choice is B) $5,942.

The Cost of Equity: What Is Millennium's Value After the Debt