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Questions and Answers of
Corporate Finance
Describe the differences between top-down and bottom-up sales forecasting methods. Describe advantages and disadvantages of each. Do you think one approach is likely to be more accurate than the
What is the logic of the percentage-of-sales method for constructing pro forma statements? On a year-to-year basis, which balance sheet and income statement items do you think will fluctuate most
Why does it make sense to let the firm’s cash balance or a short-term liability account serve as the plug figure in pro forma projections? Why not use gross fixed assets as the plug figure?
Why might pro forma statements and the equation for external funds required (EFR) yield different projections for a firm’s financing needs?
What is the difference between the conservative strategy, the aggressive strategy, and the matching strategy for funding the long-term trend and the seasonal fluctuations in a firm’s total current
How is a cash budget different from a set of pro forma financial statements? Why do you think that firms typically create cash budgets at higher frequencies than they create pro forma financial
Explain how slower inventory turnovers, slower receivables collections, or faster payments to suppliers would influence the numbers produced by a cash budget.
Eisner Amusement Parks reported the following data in its most recent annual report:Sales .........$42.5 millionNet income........$3.8 millionDividends ........$1.1 millionAssets .........$50.0
Review the abbreviated financial statements for the last two years for the Norne Energy Corp. All values are expressed in billions of dollars.a. What was Nornes sustainable growth rate
The 2013 sales forecast for Clearwater Development Co. is $150 million. Interest expense will not change in the coming year. Use Clearwater’s 2012 income statement ($ in thousands) presented below
Hill Propane Distributors wants to construct a pro forma balance sheet for 2013. Build the statement using the following data and assumptions:1. Projected sales for 2013 are $35 million.2. Hill’s
Review the following 2012 balance sheet and income statement for T. F. Baker Cosmetics Inc. appear below. The numerical values are in thousands of dollars.At a recent board meeting, the firm decided
A firm has actual sales of $50,000 in January and $70,000 in February. It expects sales of $90,000 in March and $110,000 in both April and May. Assuming that sales are the only source of cash inflow,
Bachrach Fertilizer Corp. had sales of $2 million in March and $2.2 million in April. Expected sales for the next three months are $2.4 million, $2.5 million, and $2.7 million. Bachrach has a cash
The actual sales and purchases for White Inc. for September and October 2012, along with its forecast sales and purchases for the November 2012 through April 2013, follow.The firm makes 30 percent of
Berlin Inc. expects sales of $300,000 during each of the next three months. It will make monthly purchases of $180,000 during this time. Wages and salaries are $30,000 per month plus 5% of monthly
1. One method of estimating the effects of growth is the sustainable growth model. What are the assumptions inherent with this model? 2. Another method of estimating growth is for firm managers to
Is buying an option more or less risky than buying the underlying stock?
What is the difference between an option’s price and its payoff?
What are the economic benefits that options provide?
Suppose you want to make an investment that will be profitable if a company’s stock price falls. What are the pros and cons of buying a put option on the company’s stock versus short selling the
Suppose you own an American call option on Pfizer stock. Pfizer stock has gone up in value considerably since you bought the option, so your investment has been profitable. There is still one month
Look at the Opti-tech call option prices in Table. Call prices increase as the strike price decreases, holding the expiration month constant. The strike prices decrease in increments of $2.50. Do
If the underlying stock price is $25, indicate whether each of the options below is in the money, at the money, or out of the money.
Draw payoff diagrams for each of the positions below (X = strike price).a. Buy a call with X = $50b. Sell a call with X = $60c Buy a put with X = $60d. Sell a put with X = $50
Draw payoff diagrams for each of the portfolios below (X = strike price).a. Buy a share of stock and short a call with X = $35b. Buy a risk-free zero-coupon bond with a face value of $35 and sell a
Draw payoff diagrams for each of the following portfolios (X = strike price):a. Buy a call with X = $50, and sell a call with X = $60b. Buy a bond with a face value of $10, short a put with X = $60,
Draw a payoff diagram for the following portfolio: Buy two call options, one with X = $20 and one with X = $30, and sell two call options, both with X = $25.
Refer to the data in the following table.Strike Price Put Price$30 ..........$1.00$35 ..........$3.50$40 ..........$6.50Suppose an investor purchases 1 put with X = $30 and one put with X = $40 and
Draw a payoff diagram for the following portfolios:a. Buy a bond with a face value of $80, buy a call with X = $80, and sell a put with X = $80.b. Buy a share of stock, buy a put with X = $80, and
Imagine that a stock sells for $33. A call option with X = $35 and an expiration date in six months sells for $4.50. The annual risk-free rate is 5 percent. Calculate the price of a put option
Suppose an American call option is in the money, so S > X. Demonstrate that the market price of this call (C) cannot be less than the difference between the stock price and the exercise price. That
a. A call option expires in three months and has X = $40. The underlying stock is worth $42 today. In three months, the stock may increase by $7 or decrease by $6. The risk-free rate is 2% per
Explain the following paradox. A put option is a highly volatile security. If the underlying stock has a positive beta, then a put option on that stock will have a negative beta (because the put
A particular stock sells for $27. A call option on this stock is available with a strike price of $28 and an expiration date in four months. If the risk-free rate equals 6% and the standard
A convertible bond has a par value of $1,000 and a conversion ratio of 20. If the underlying stock currently sells for $40 and the bond sells at par, what is the conversion premium? The conversion
1. You believe the price of PPRO will rise and are therefore considering either (a) taking a long position in a $45 call by paying a premium of $3, or (b) taking a short position in a $45 put for
What is meant by a change in corporate control? List and describe the various ways in which a change of corporate control may occur.
What is a tender offer, and how can it be used as a mechanism to orchestrate a merger?
Distinguish between the different levels of business concentration created by mergers. Explain how the changing business environment has caused an evolution in the classification of concentration
Elaborate on the significance of the mode of payment for the stockholders of the target firm and their continued interest in the surviving firm. Specifically, which form of payment retains the
What is the signaling theory of mergers? What is the relationship between signaling and the mode of payment used in acquisitions? Is there a relationship between the mode of payment used in
Empirically, what are the wealth effects of corporate control activities? Who wins and who loses in corporate control contests? What explanations or theories are offered for the differences in
Describe several different motives for mergers. Are each of these motives likely to increase bidder value?
Define the types of synergy that may result from mergers. What are the sources of these synergies?
Explain how agency problems may lead to non-value-maximizing motives for mergers. Discuss the various academic theories offered as the rationale for these agency problem–induced motives.
Why does the Precedent Transactions valuation method typically yield higher valuations?
Would a large technology company and a large conglomerate (that operates in many industries) be good comparable firms for a multiples-based valuation? Why or why not?
Describe the relationship between conglomerate mergers and portfolio theory. What is the desired result of merging two unrelated businesses? Has the empirical evidence proven corporate
List the federal laws regulating antitrust and anticompetitive mergers. What are the actions governed by each law? How do the regulatory agencies determine anti competitiveness?
What is the purpose of the Williams Act? What are the specific provisions of the act?
What are the restrictions faced by corporate insiders during corporate control events?
How have individual states become more active monitors of takeover activity?
A firm has four divisions—food, cookware, retail, and credit services—that generate revenues of $1.5 million, $3.8 million, $5.7 million, and $3.1 million, respectively. Compute the Herfindahl
HHG Consultants has been asked to analyze Carol & Carroll Co. (C&C), which has one retail division. C&C is concerned that it is not focused on its core mission of sales despite only having one
Firm X has three divisions that generate revenues of $1.3 billion, $2.5 billion, and $5.2 billion. Firm Y is a competitor with three associated divisions that generate $2 billion each. Using a
Shareholders of the firm Up-4-Grabs (U4G) have been offered $36.00 per share in cash for each of their U4G shares currently selling for $29.53. What is the control premium being offered in this cash
HBABB Corp. has purchased all of the 10 million shares of BOBCO stock for $43.75 a share. BOBCO’s net asset value is $350 million. How much goodwill does HBABB need to consider on its balance
Mega Service Corporation (MSC) is offering to exchange 2.5 shares of its own stock for each share of target firm Norman Corporation stock as consideration for a proposed merger. There are 10 million
Bulldog Industries is offering, as consideration for merger target Blazerco, 1.5 shares of their stock for each share of Blazerco. There are 1 million shares of Blazerco outstanding, and its stock
You are the director of capital acquisitions for Crimson Software Company. One of the projects you are considering is the acquisition of Geekware, a private software company that produces software
You are the director of capital acquisitions for Morningside Hotel Company. One of the projects you are deliberating is the acquisition of Monroe Hospitality, a company that owns and operates a chain
Firm A plans to acquire Firm B. The acquisition would result in incremental cash flows for Firm A of $10 million in each of the first five years. Firm A expects to divest Firm B at the end of the
Charger Incorporated and Sparks Electrical Company are competitors in the business of electrical components distribution. Sparks is the smaller firm and has garnered the attention of the management
Referring to Problem, assume it is now two years after the acquisition of Sparks, and you must perform a goodwill impairment test of the subsidiary. Growth expectations have been lowered to 3% going
Firms AFD, TYU, CHG, and LAN are competitors within an industry. Their respective sales figures are $2.8 billion, $3.9 billion, $4.8 billion, and $2.1 billion. What is the Herfindahl Index (HI) for
Bogey Inc. (BOG), with a share price of $36 and EPS of $3, purchases Zoe Corp., with a pre-acquisition share price of $20 and EPS of $2, for a 10% premium. If the deal is financed exclusively with
Following the previous question, what if BOG instead financed the acquisition entirely with debt at an after-tax cost of 9%? Would the deal be accretive or dilute to earnings for BOG shareholders?
GRJ Corp. just reported $10 million in after-tax earnings and management expects to grow at 3% in perpetuity with a weighted average cost of capital of 13%: a. How would you value GRJ using a
Posada Corp. (POS) expects to earn EBITDA of $4.2 million next year and expects slow but steady growth thereafter. POS’s three key competitors (nearly identical operations and growth prospects) are
You are assessing a potential acquisition for a client and your analyst informs you that the historic EBITDA multiple based on Public Comparables is 5.8 and the historic EBITDA multiple based on
A given market was initially segmented evenly among 20 firms (Phase 1). Five years later, the market was still segmented evenly among competing firms, but there were now only 10 firms (Phase 2).
1. Determine the amount Jackson Enterprises is willing to pay in terms of goodwill.2. If JE’s shares are currently trading at $62.43, then how many shares should JE offer for every share of
Discuss why it makes sense to offer subsidies to firms that reorganize rather than liquidate.
Explain why the option to delay entering bankruptcy has value for corporate managers.
Why do creditors usually accept a plan for financial rehabilitation rather than demand liquidation of a business?
“A certain number of bankruptcies are good for the economy.” Discuss why you agree or disagree with this statement.
“A business should always be liquidated when the liquidation value exceeds the business’s value as a going concern.” Discuss why you agree or disagree with this statement.
What are the advantages and disadvantages of a voluntary workout to resolve financial distress? What are the advantages and disadvantages of declaring bankruptcy to resolve financial distress?
A business can be liquidated for $700,000, or it can be reorganized. Reorganization would require an investment of $400,000. If the company is reorganized, earnings are projected to be $150,000 per
Explain why the priorities for liquidation are determined as they are. Do you agree with the order?
What is the purpose of a prepackaged bankruptcy? Would a prepackaged bankruptcy be more likely to be used for a liquidation or a reorganization?
Why would some creditors be willing to subordinate their claims to the claims of other creditors?
Who would use Altman’s Z score to predict bankruptcy? Why would the ability to predict bankruptcy be useful to them?
A firm has $450,000 in funds to distribute to its unsecured creditors. Three possible sets of unsecured creditor claims are presented. Calculate the settlement, if any, to be received by each
A firm has $5 million in funds to distribute to its unsecured creditors. Three possible sets of unsecured creditor claims are presented. Calculate the settlement, if any, to be received by each
Keck Business Forms recently failed and will be liquidated by a court-appointed trustee who will charge $300,000 for her services. The preliquidation balance sheet follows. Assume that the trustee
Sosbee Foods has a working capital/total assets ratio of 0.2, a retained earnings/total assets ratio of 0.1, earnings before interest and taxes/ total asset ratio of 0.25, market value of
The following balance sheet and income statement are for Weber Industries. The firms stock currently is priced at $6.00 per share. Calculate and interpret the companys Z
Compute the Z score for Giant Motors Corporation (GMC) given the following information for year-end 2012:At what share price would GMC have a Z score equal to 3.00? How does the future look for GMC?
Compute the Z score for Central Manufacturing Corporation (CMC) given the following information for year-end 2012:Based on its Z score, is CMC likely to go bankrupt in the near future?
Compute the Z score for FAST Motor Company given the following information for year-end 2012:What proportion (measured as a percentage) of the Z score is composed of 0.60(X4)? Is FAST likely to go
Compute the Z score for Win-Mart, given the following information for year-end 2012:What proportion (measured as a percentage) of the Z score is composed of 0.60(X4)? What proportion (measured as a
Flanan Photography Studios, Inc. (FPS) is preparing for a court-ordered bankruptcy and has issued the following preliquidation financial statements.TruValue Trustees Services (TTS) has been appointed
Historically, what types of risk were the focus of most firms’ risk-management practices?
Distinguish between the motivations for purchasing insurance and the motivations for hedging market-wide sources of risk.
In what way can hedging reduce the risk of financial distress? How might reducing the risk of financial distress increase firm value?
Explain how hedging can reduce a firm’s tax liability.
Why do closely held firms tend to hedge more than firms with diffuse ownership?
How can hedging make it easier to evaluate a manager’s performance?
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