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Questions and Answers of Corporate Finance

Consider Pacific Energy Company and Bluechips Inc., both of which reported earnings of $750,000. Without new projects, both firms will continue to generate earnings of $750,000 in perpetuity. Assume
The Stambaugh Corporation currently has EPS of $8.25. The company has no growth and pays out all earnings as dividends. It has a new project that will require an investment of $1.60 per share in one
Victoria Real Estate Inc. expects to earn $71 million per year in perpetuity if it does not undertake any new projects. The firm has an opportunity to invest $16 million today and $5 million in
The annual earnings of Avalanche Skis Inc. will be $10 per share in perpetuity if the firm makes no new investments. Under such a situation, the firm would pay out all of its earnings as dividends.
Most corporations pay quarterly dividends on their common stock rather than annual dividends. Barring any unusual circumstances during the year, the board raises, lowers, or maintains the current
This one’s a little harder. Suppose the current share price for the firm in Problem 6.48 is $78.43, and all the dividend information remains the same. What required return must investors be
Even though most corporate bonds in Canada and the United States make coupon payments semiannually, bonds issued elsewhere often have annual coupon payments. Suppose a German company issues a bond
Define the forward rate.
Assume the following spot rates:Maturity Spot rate
Consider the following three zero-coupon bonds:a. Calculate the one-, two-, and three-year spot rates.b. Calculate the forward rate over the second year, and the one corresponding to the third
What is the liquidity-preference hypothesis?
Assume that the five-year spot rate is 10 percent.a. If the forward rate over the sixth year is currently at 7.5 percent, what is the six-year spot rate?b. If the forward rate over the fifth year is
The appropriate discount rate for cash flows received one year from today is 11 percent. The appropriate annual discount rate for cash flows received two years from today is 14 percent.a. What
If the one-year spot rate is 7.5 percent and the two-year spot rate is 12 percent, what is the forward rate?
Sparkling Water Inc. sells 4.6 million bottles of drinking water each year. Each bottle sells for $2, and costs per bottle are $0.45. Sales income and costs occur at year-end. Sales income is
International Buckeyes is building a factory that can make 1 million buckeyes a year for five years. The factory costs $9 million. In year 1, each buckeye will sell for $4.50. The price will rise 5
Marvellous Mining Company (MMC) is negotiating for the purchase of a new piece of equipment for its current operations. MMC wants to know the maximum price that it should be willing to pay for the
A machine that lasts four years has the following net cash outflows: $12,500 to purchase the machine and $7,500 for the annual year-end operating cost. At the end of four years, the machine is sold
Radio Station CJXT is considering replacing its old, fully depreciated sound mixer. Two new models are available. Mixer X has a cost of $500,000, a five-year expected life, and after-tax cash flow
Which is better:(1) Investing $10,000 in a guaranteed investment certificate (GIC) for one year at 8 percent when expected inflation is 4 percent(2) Investing $10,000 in a GIC at 6 percent when
A new electronic process monitor will cost Clarke Designs $145,000. This cost will be depreciated at 25 percent per year (class 9). The monitor will actually be worth-less in six years. The new
Be Safe Security believes it can sell 15,000 home security devices per year at $28 apiece. They cost $19 each to manufacture (variable cost). Fixed production costs will run $30,000 per year. The
Suppose Mats Sundin decided to make another comeback with the Toronto Maple Leafs in 2016. The Leafs offer him a two-year contract in January 2016 with the Following provisions:a. $8 million signing
This problem is much easier if you are working with a spreadsheet. Sparky Fireworks Inc. is contemplating the purchase of a $1.2 million computer-based customer order management system. CCA on the
A proposed cost-saving device has an installed cost of $60,500. It is in class 9 for CCA purposes. (CCA rates are given in Table 8A.1 in Appendix 8A.) It will actually function for six years, at
Klaatu Co. has recently completed a $500,000, two-year marketing study. Based on the results, Klaatu has estimated that 12,000 of its new RUR-class robots could be sold annually over the next eight
ABC Company is considering purchasing manufacturing equipment from two different suppliers. Equipment A has a purchase price of $2.9 million and will cost $80,000, pre tax, to operate on an annual
Victoria Enterprises Inc. is evaluating alternative uses for a three-storey manufacturing and warehousing building that it has purchased for $1,450,000. The company could continue to rent the
The Regina Wheat Company (RWC) has wheat fields that currently produce annual profits of $750,000. These fields are expected to produce average annual profits of $750,000 in real terms, forever. RWC
Larry, owner/manager of a small restaurant, is contemplating buying a larger restaurant from its owner, who is retiring. Larry would finance the purchase by selling his existing small restaurant;
Beaver Mining is a mid-sized coal-mining company with 20 mines located in western Canada. The company operates deep mines as well as strip mines. Most of the coal mined is sold under contract, with
After extensive research and development, Good-week Tires Inc. has recently developed a new tire, the Super Tread, and must decide whether to make the investment necessary to produce and market it.
Lockhart Homebuilders is evaluating a project that costs $724,000, has an eight-year life, and has no salvage value. Assume that depreciation is straight-line to zero over the life of the project.
Refer to Problem 9.10. McGilla Golf would like to know the sensitivity of NPV to changes in the price of the new clubs and the quantity of new clubs sold. What is the sensitivity of the NPV to each
Your company is examining a new project. It expects to sell 9,000 units per year at $35 net cash flow apiece for the next 10 years. In other words, the annual operating cash flow is projected to be
In Problem 9.12, suppose you think it is likely that expected sales will be revised upward to 11,000 units if the first year is a success and revised downward to 4,000 units if the first year is not
In Problem 9.12, suppose the scale of the project can be doubled in one year in the sense that twice as many units can be produced and sold. Naturally, expansion would be desirable only if the
Hickock Mining is evaluating when to open a gold mine. The mine has 48,000 ounces of gold left that can be mined, and mining operations will produce 6,000 ounces per year. The required return on
In Problem 9.1, suppose the projections given for price, quantity, variable costs, and fixed costs are all accurate to within ±10 percent. Calculate the best-case and worst case NPV figures.In
You are the financial analyst for a tennis racquet manufacturer. The company is considering using a graphite-like material in its tennis racquets. The company has estimated the information in the
Consider a project to supply Hamilton with 35,000 tonnes of machine screws annually for automobile production. You will need an initial $2,900,000 investment in threading equipment to get the project
In Problem 9.21, suppose you’re confident about your own projections, but you’re a little unsure about Hamilton’s actual machine screw requirements. What is the sensitivity of the project
In each of the following cases, find the unknown variable. Ignore taxes.
Suppose a stock had an initial price of $92 per share, paid a dividend of $1.45 per share during the year, and had an ending share price of $104. Compute the percentage total return.
Suppose the returns on Canada long bonds are normally distributed. Based on the historical record, what is the approximate probability that your return on these bonds will be less than -3.3 percent
Rework Problem 10.1 assuming the ending share price is $67.Problem 10.1Suppose a stock had an initial price of $92 per share, paid a dividend of $1.45 per share during the year, and had an ending
Suppose the returns on Canadian common stocks are normally distributed. Based on the historical record, use the NORMDIST function in Microsoft Excel to determine the probability that in any given
Suppose the returns on bonds and T-bills are normally distributed. Based on the historical record, use the NORMDIST function in Microsoft Excel to answer the following questions: a. What is the
Suppose you bought a 6 percent coupon bond one year ago for $1,040. The bond sells for $1,063 today.a. Assuming a $1,000 face value, what was your total dollar return on this investment over the past
Using historical returns from Table 10.3, what is the historical real return on Canada Treasury bills? On long-term bonds?
Using the following returns, calculate the average returns, variances, and standard deviations for X and Y:
Refer to Table 10.1 in the text and look at the period from 1973 through 1978.a. Calculate the arithmetic average returns for common stocks and T-bills over this period.b. Calculate the standard
You purchased a zero-coupon bond one year ago for $77.81. The market interest rate is now 9 percent. If the bond had 30 years to maturity when you originally purchased it, what was your total return
Consider the following information:a. Your portfolio is invested 30 percent each in A and C and 40 percent in B. What is the expected return of the portfolio?b. What is the variance of this
You own a stock portfolio invested 10 percent in stock Q, 35 percent in stock R, 20 percent in stock S, and 35 percent in stock T. The betas for these four stocks are 0.75, 1.90, 1.38, and 1.16,
A stock has a beta of 1.13 and an expected return of 12.1 percent. A risk-free asset currently earns 5 percent.a. What is the expected return on a portfolio that is equally invested in the two
Asset W has an expected return of 12.3 percent and a beta of 1.3. If the risk-free rate is 4 percent, complete the following table for portfolios of asset W and a risk-free asset. Illustrate the
Using information from Table 10.2 in Chapter 10 about capital market history, determine the return on a portfolio that is equally invested in Canadian common stocks and bonds. What is the return on a
You own a portfolio that has $1,900 invested in stock A and $2,300 invested in stock B. If the expected returns on these stocks are 10 percent and 15 percent, respectively, what is the expected
Consider the following information about three stocks:a. If your portfolio is invested 40 percent each in A and B and 20 percent in C, what is the portfolio expected return? The variance? The
Security F has an expected return of 10 percent and a standard deviation of 26 percent per year. Security G has an expected return of 17 percent and a standard deviation of 58 percent per
Suppose the expected returns and standard deviations of stocks A and B are E (RA) = 0.09, E (RB) = 0.15, σA = 0.36, and σB = 0.62, respectively.a. Calculate the expected return and standard
You have been provided with the following data about the securities of three firms, the market portfolio, and the risk-free asset:a. Fill in the missing values in the table.b. Is the stock of firm A
Suppose the risk-free rate is 4.8 percent and the market portfolio has an expected return of 11.4 percent. The market portfolio has a variance of 0.0429. Portfolio Z has a correlation coefficient
Consider the following information:a. What is the expected return on an equally weighted portfolio of these three stocks?b. What is the variance of a portfolio invested 20 percent each in A and B,
You are discussing your retirement plan with Alvin Jones when he mentions that Maureen Buffett, a representative from Marshall & McLaren Financial Services, is visiting Deck Out My Yacht today.
The Dybvig Corporation’s common stock has a beta of 1.21. If the risk-free rate is 3.5 percent and the expected return on the market is 11 percent, what is Dybvig’s cost of equity capital?
In Problem 13.10, suppose the company’s stock has a beta of 1.2. The risk-free rate is 3.1 percent, and the market risk premium is 7 percent. Assume that the overall cost of debt is the weighted
Kose Inc. has a target debt-to-equity ratio of 0.65. Its WACC is 11.2 percent, and the tax rate is 35 percent.a. If Kose’s cost of equity is 15 percent, what is its pre-tax cost of debt?b. If
Southern Alliance Company needs to raise $45 million to start a new project and will raise the money by selling new bonds. The company will generate no internal equity for the foreseeable future. The
The Devon Co. just issued a dividend of $2.35 per share on its common stock. The company is expected to maintain a constant 5 percent growth rate in its dividends indefinitely. If the stock sells for
Goodbye Inc. recently issued new securities to finance a new TV show. The project cost $19 million, and the company paid $1,150,000 in flotation costs. In addition, the equity issued had a flotation
Floyd Industries stock has a beta of 1.30. The company just paid a dividend of $0.95, and the dividends are expected to grow at 4.5 percent per year. The expected return on the market is 11 percent,
Trower Corp. has a debt-to-equity ratio of 0.85. The company is considering a new plant that will cost $145 million to build. When the company issues new equity, it incurs a flotation cost of 8
As a recent graduate, you have been hired by Canadian Communications Inc. (CCI), a large industry leader in the Canadian telecommunications market. CCI is contemplating investing in an upgraded
Stock in Country Road Industries has a beta of 0.85. The market risk premium is 8 percent, and T-bills are currently yielding 5 percent. The company’s most recent dividend was $1.60 per share, and
For the firm in Problem 13.5, suppose the book value of the debt issue is $70 million. In addition, the company has a second debt issue on the market, a zero-coupon bond with 12 years left to
Fama’s Llamas has a WACC of 9.8 percent. The company’s cost of equity is 13 percent, and its cost of debt is 6.5 percent. The tax rate is 35 percent. What is Fama’s debt-to- equity ratio?
1 Last year, Simplex Robotics had $8 million in operating income (EBIT). The company had net depreciation expense of $2 million and an interest expense of $1 million; its corporate tax rate was 32
You are considering installing an energy-efficient central heating system in your firm’s warehouse. The installation will cost $12,000, and you estimate total savings of $3,000 per year. The
You have recently been hired by Goff Communica-tions Inc. (GCI) in the finance area. GCI was founded 20 years ago by Chris Goff and currently employs over 30,000 workers. GCI is privately owned by
Air Canada, West Jet, and Transat A.T. Inc. announced purchases of planes on July 18 (18/7), February 12 (12/2), and October 7 (7/10), respectively. Given the following information, calculate the CAR
The following diagram shows the CARs for 386 oil exploration companies announcing oil discoveries between 1950 and 1980. Month 0 in the diagram is the announcement month. Assume that no other
The following figures present the results of four CAR studies. Indicate whether the results of each study support, reject, or are inconclusive about the semi-strong form of the EMH. In each figure,
A study analyzed the behavior of the stock prices of firms that had lost antitrust cases. Included in the diagram are all firms that lost the initial court decision, even if the decision was later
Nanotech, a microchip development and research firm, announced this morning that it has hired the world’s most knowledgeable researchers on nanotechnology. Before today, Nanotech’s stock had been
The shareholders of the Unicorn Company need to elect seven new directors. There are 600,000 shares outstanding, currently trading at $39 per share. You would like to serve on the board of directors;
Consider the prices of the following three Treasury issues as of February 24, 2015:The bond in the middle is callable in February 2016. What is the implied value of the call feature?
Power Inc. will elect six board members next month. Betty Brown owns 17.4 percent of the total shares outstanding. How confident can she be of having one of her candidate friends elected under the
Newfoundland Industries has decided to borrow money by issuing perpetual bonds with a coupon rate of 8 percent, payable annually. The one-year interest rate is 8 percent. Next year, there is a 35
For the company in problem 18.10, what is the value of being able to issue subsidized debt instead of having to issue debt at the terms it would normally receive? Assume the face amount and maturity
Lone Star Industries just issued $195,000 of perpetual 9 percent debt and used the proceeds to repurchase stock. The company expects to generate $83,000 of EBIT in perpetuity. The company distributes
Danika Kaffe, CFO of Kendrick Enterprises, is evaluating a 10-year, 8 percent loan with gross proceeds of $5,350,000. The interest payments on the loan will be made annually. Flotation costs are
Lee Ann Inc. has declared a $5.60 per share dividend. Suppose capital gains are not taxed, but dividends are taxed at 15 percent. Lee Ann sells for $75 per share, and the stock is about to go
You own 1,000 shares of stock in Avondale Corp. You will receive a $0.95 per share dividend in one year. In two years, Avondale will pay a liquidating dividend of $45 per share. The required
In problem 19.11, suppose you want only $500 total in dividends the First year.What will your homemade dividend be in two years?In problem 19.11You own 1,000 shares of stock in Avondale Corp. You
The Sharpe Co. just paid a dividend of $1.50 per share of stock. Its target payout ratio is 40 percent. The company expects to have an EPS of $4.15 one year from now.a. If the adjustment rate is 0.3
The Gecko Company and the Gordon Company are two firms whose business risk is the same but that have different dividend policies. Gecko pays no dividend, whereas Gordon has an expected dividend yield
As discussed in the text, in the absence of market imperfections and tax effects, we would expect the share price to decline by the amount of the dividend payment when the stock goes ex-dividend.
The shareholders’ equity accounts for Hexagon International are shown here:Common stock ($1 book value).................. $ 30,000Capital

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