Question: A firm's current balance sheet is as follows:

1. What is the firm's weighted-average cost of capital at various combinations of debt and equity, given the following information?

   Debt/Assets	After-Tax Cost of Debt	Cost of Equity	Cost of Capital
   0%	8%	12%	?
   10	8	12	?
   20	8	12	?
   30	8	13	?
   40	9	14	?
   50	10	15	?
   60	12	16	?

2. Construct a pro forma balance sheet that indicates the firm's optimal capital structure. Compare this balance sheet with the firm's current balance sheet. What course of action should the firm take?

   Assets	$100	Debt	$?
   		Equity	$?

3. As a firm initially substitutes debt for equity financing, what happens to the cost of capital, and why?
4. If a firm uses too much debt financing, why does the cost of capital rise?

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