The NI Approach. Equipment Company has earnings before interest and taxes (EBIT) of $10 million. The company currently has outstanding debt of $20 million at a cost of 7 percent. Ignore taxes. (a)...

The NI Approach. Equipment Company has earnings before interest and taxes (EBIT) of $10 million. The company currently has outstanding debt of $20 million at a cost of 7 percent. Ignore taxes.

(a) Using the net income (NI) approach and a cost of equity of 12.5 percent; (1) compute the total value of the firm and the firm’s overall weighted average cost of capital (ko), and (2) determine the firm’s market debt/equity ratio. (b) Assume that the firm issues an additional $10 million in debt and uses the proceeds to retire stock; the interest rate and the cost of equity remain the same. (1) Compute the new total value of the firm and the firm’s overall cost of capital, and (2) determine the firm’s market debt/equity ratio.