Question

Edwards Construction currently has debt outstanding with a market value of $103,000 and a cost of 12 percent. The company has EBIT of $12,360 that is expected to continue in perpetuity. Assume there are no taxes.

a-1. What is the value of the company's equity? (Do not round intermediate calculations. Leave no cell blank - be certain to enter "0" wherever required.)

a-2. What is the debt-to-value ratio? (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

b. What are the equity value and debt-to-value ratio if the company's growth rate is 4 percent? (Do not round intermediate calculations and round your "Debt-to-value" answer to 3 decimal places, e.g., 32.161.)

c. What are the equity value and debt-to-value ratio if the company's growth rate is 8 percent? (Do not round intermediate calculations and round your "Debt-to-value" answer to 3 decimal places, e.g., 32.161.)

Answer 1

1-A	value of equity = (EBIT-interest)/cost of capital)	(12360-12360)/12%	0
	EBIT		12360
	Interest		12360
	cost of capital		12%
	Value of company equity		0
1-B	Debt to value ratio = total of debt/total of value	103000/103000	1
	total of value = value of debt+value of equity	103000+0	103000
	total of debt		103000
2-A	Value of equity = EBT/(cost of capital -growth rate)	494.4/(12%-4%)	6180
	New EBIT	12360*1.04	12854.4
	Interest		12360
	EBT	12854.4-12360	494.4
	value of firm = value of equity+value of debt	6180+103000	109180
2-B	Debt to value ratio = total of debt/total of value	103000/109180	0.943
	total of value = value of debt+value of equity	103000+6180	109180
	total of debt		103000
3-A	Value of equity = EBT/(cost of capital -growth rate)	988.8/(12%-8%)	24720
	New EBIT	12360*1.08	13348.8
	Interest		12360
	EBT	12854.4-12360	988.8
	value of firm = value of equity+value of debt	24720+103000	127720
2-B	Debt to value ratio = total of debt/total of value	103000/127720	0.806
	total of value = value of debt+value of equity	103000+24720	127720
	total of debt		103000