Leverage and the Cost of Capital. The common stock and debt of Northern Sludge are valuedat $70 million and $30 million, respectively. Investors currently require a 16% return onthe common stock and an 8% return on the debt. If Northern Sludge issues an additional$10 million of common stock and uses this money to retire debt, what happens to the expectedreturn on the stock? Assume that the change in capital structure does not affect the interest rateon Northern’s debt and that there are no taxes. (LO16-1)
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