Target capital structure. Currently it targets a 50-50 mix of debt and equity, but it is considering a

target capital structure with 70% debt. American Exploration currently has 6% after-tax cost of

debt and a 12% cost of common stock. The company does not have any preferred stock

outstanding. (2 Marks)

a. What is American Exploration’s current WACC?

b. Assuming that its cost of debt and equity remain unchanged, what will be American

Exploration’s WACC under the revised target capital structure?

c. Do you think shareholders are affected by the increase in debt to 70%? If so, how are they

affected? Are the common stock claims riskier now?

d. Suppose that in response to the increase in debt, American Exploration’s shareholders

increase their required return so that cost of common equity is 16%. What will its new WACC be

in this case?

Q2. What is the significance of voting rights to the ordinary shareholders? What is a proxy? Why

do proxy fights occur? (1 Mark)

Q3. Briefly explain the factors that influence the planning of the capital structure in practice. (1

Mark)

Q4. ‘Bonus shares represent sim