Triad Labs Has Total Assets of $120 Million and $40

Multiple Choice

Triad Labs has total assets of $120 million and $40 million of debt in its capital structure. Its current cost of equity is 13%, and its cost of debt is 8.5%. Triad is considering increasing its debt to $70 million and purchasing its own stock with proceeds from the sale of $30 million in debt with a cost of 9.5%, reducing equity to $50 million. The cost of equity will increase to 14.5%. Net operating income (EBIT) will remain at $12 million. If Triad has a marginal tax rate of 40%, should the firm increase its debt? Assume that both debt and EBIT are perpetual.

A) No, the value of the firm decreases $15.9 million
B) No, the value of the firm decreases $30.0 million
C) Yes, the value of the firm increases $14.1 million
D) Yes, the value of the firm increases $30.0 million