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Companies A and B differ only in their capital structure. A is financed 30% with riskless debt and 70% with equity; B is financed entirley with equity. Both companies operate in a perfect capital market and earn $200,000 of operating income each year. Assume both A and B have a market value of $1m and 10,000 shares outstanding. Risk-free interest rate is %10.

A) Mr X can buy 1% of A's equity for $7,000. Find another $7,000 portfolio that would produce identical cash flows from him using stock B and riskless borrowing or lending. (Must prove identical cash flows).

B) Mr. Y can by 2% of B's equity for $20,000. Find another $20,000 portfolio that would produce identical cash flows from him using stock A and riskless borrowing or lending.

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Financial Management, Finance

Category:- Financial Management
Reference No.:- M91614075

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