Delta Corporation has the following capital structure: a. If the firm has $39 mi

Question

Delta Corporation has the following capital structure:

  

a. If the firm has $39 million in retained earnings, at what size capital structure will the firm run out of retained earnings? (Enter your answer in millions of dollars (e.g., $10 million should be entered as "10").)
  

b. The 10.5 percent cost of debt referred to earlier applies only to the first $21 million of debt. After that the cost of debt will go up. At what size capital structure will there be a change in the cost of debt? (Enter your answer in millions of dollars (e.g., $10 million should be entered as "10").)
  

Cost
(aftertax) Weights Weighted
Cost Debt (Kd) 10.5 % 15 % 1.58 % Preferred stock (Kp) 10.0 20 2.00 Common equity (Ke) (retained earnings) 14.2 65 9.23 Weighted average cost of capital (Ka) 12.81 %

Explanation / Answer

solution:

a. If the firm has $39 million in retained earnings, at what size capital structure will the firm run out of retained earnings? size of capital structure = retained earnings/common equity weight 60 39/0.65 b. The 10.5 percent cost of debt referred to earlier applies only to the first $21 million of debt. After that the cost of debt will go up. At what size capital structure will there be a change in the cost of debt? size of capital structure = amount of lower cost of debt/debt weight 140 21/0.15

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