Fan Plc is a publicly traded firm. The market value of its equity is 70,000,000 and its debt 30,000,000.

Fan Plc is a publicly traded firm. The market value of its equity is £70,000,000 and its debt £30,000,000. The yield to maturity of the debt is 5%, the shareholders require a 20% return, and the company pays 30% corporate tax. They have recently decided to repurchase £10,000,000 worth of equity, and finance the repurchase through the issuance of new debt.

a) Will this change in capital structure affect the market value of the firm? Discuss. (10 marks)

b) How will the return on equity be affected by this change? What is the new return on equity of the company?