Question

Refer to the data for Best Bagels, Inc. (BB). BB is considering moving to a capital structure that is comprised of 20% debt and 80% equity, based on market values. The debt would have an interest rate of 7%. The new funds would be used to repurchase stock. It is estimated that the increase in risk resulting from the additional leverage would cause the required rate of return on equity to rise to 14%. If this plan were carried out, what would BB's new value of operations be?

Answer 1

$498,339

Step-by-step explanation:

WACC= wcrs+ wd(1 −T)rd

= (0.8)(0.14) + (0.2)(0.07)(1 −0.4)

= 0.1204

= 12.04%

V= FCF/WACC

g = 0

FCF = NOPAT

= EBIT(1 −T)

V= $100,000(1 −0.4)/0.1204

= $498,338.87

Approximately $498,339.

Therefore If this plan were carried out, what would BB's new value of operations will be $498,339