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Questions and Answers of
Corporate Finance
You've observed the following returns on SkyNet Data Corporation's stock over the past five years: 21 percent, 17 percent, 26 percent, - 7 percent, and 4 percent.a. What was the arithmetic average
As we have seen, over the 1926-2014 period, small company stocks had the highest return and the highest risk, while U.S. Treasury bills had the lowest return and the lowest risk. While we certainly
Suppose a stock had an initial price of $64 per share, paid a dividend of $1.20 per share during the year, and had an ending share price of $73. Compute the percentage total return.
What are the portfolio weights for a portfolio that has 165 shares of Stock A that sell for $43 per share and 120 shares of Stock B that sell for $74 per share?
You own a stock portfolio invested 15 percent in Stock Q, 35 percent in Stock R, 30 percent in Stock S, and 20 percent in Stock T. The betas for these four stocks are .75, 1.90, 1.38, and 1.16,
You own a portfolio equally invested in a risk-free asset and two stocks. If one of the stocks has a beta of 1.73 and the total portfolio is equally as risky as the market, what must the beta be for
Asset W has an expected return of 11.9 percent and a beta of 1.2. If the risk-free rate is 4 percent, complete the following table for portfolios of Asset W and a risk-free asset. Illustrate the
Stock Y has a beta of 1.20 and an expected return of 12.7 percent. Stock Z has a beta of .90 and an expected return of 11.1 percent. If the risk-free rate is 4.5 percent and the market risk premium
You own a portfolio that has $2,700 invested in Stock A and $3,800 invested in Stock B. If the expected returns on these stocks are 9.5 percent and 14 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
You want to create a portfolio equally as risky as the market, and you have $1,000,000 to invest. Given this information, fill in the rest of the following table:Asset Investment BetaStock
You have $100,000 to invest in a portfolio containing Stock X and Stock Y. Your goal is to create a portfolio that has an expected return of 12.9 percent. If Stock X has an expected return of 11.2
Based on the following information, calculate the expected return and standard deviation of each of the following stocks. Assume each state of the economy is equally likely to happen. What are the
Based on the following information, calculate the expected return and standard deviation for each of the following stocks. What are the covariance and correlation between the returns of the two
Suppose the expected returns and standard deviations of Stocks A and B are E(RA) = .11, E(RB) = .13, σA = .39, and σB = .76.a. Calculate the expected return and standard deviation of a portfolio
You own a portfolio that is 20 percent invested in Stock X, 45 percent in Stock Y, and 35 percent in Stock Z. The expected returns on these three stocks are 11 percent, 17 percent, and 14 percent,
The market portfolio has an expected return of 11 percent and a standard deviation of 19 percent. The risk-free rate is 4.3 percent.a. What is the expected return on a well-diversified portfolio
A portfolio that combines the risk-free asset and the market portfolio has an expected return of 8 percent and a standard deviation of 17 percent. The risk-free rate is 4.3 percent, and the expected
Suppose the risk-free rate is 4.7 percent and the market portfolio has an expected return of 11.2 percent. The market portfolio has a variance of .0382. Portfolio Z has a correlation coefficient
Suppose you observe the following situation:State of Probability Return if State OccursEconomy of State Stock A Stock
You have $10,000 to invest in a stock portfolio. Your choices are Stock X with an expected return of 13 percent and Stock Y with an expected return of 8.5 percent. If your goal is to create a
Based on the following information, calculate the expected return and standard deviation for the two stocks:
Based on the following information, calculate the expected return and standard deviation:State of Probability of Rate of ReturnEconomy State of Economy if State
A portfolio is invested 20 percent in Stock G, 55 percent in Stock J, and 25 percent in Stock K. The expected returns on these stocks are 9 percent, 11 percent, and 14 percent, respectively. What is
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,
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
The CAPM is one of the most thoroughly researched models in financial economics. When beta is estimated in practice, a variation of CAPM called the market model is often used. To derive the market
A stock has a beta of 1.15, the expected return on the market is 10.6 percent, and the risk-free rate is 4.5 percent. What must the expected return on this stock be?
A stock has an expected return of 13.4 percent, the risk-free rate is 3.8 percent, and the market risk premium is 7 percent. What must the beta of this stock be?
A stock has an expected return of 13.4 percent, its beta is 1.20, and the risk-free rate is 4.4 percent. What must the expected return on the market be?
A stock has an expected return of 11.2 percent, a beta of 1.15, and the expected return on the market is 10.4 percent. What must the risk-free rate be?
Suppose a three-factor model is appropriate to describe the returns of a stock. Information about those three factors is presented in the following chart:a. What is the systematic risk of the stock
Suppose a factor model is appropriate to describe the returns on a stock. The current expected return on the stock is 10.5 percent. Information about those factors is presented in the following
Assume that the following market model adequately describes the return generating behavior of risky assets:Rit = αi + βiRMt + ЄitHere:Rit = The return on the ith asset at Time t.RMt = The return
The Fama-French three-factor model has become a popular APT model. However, another model called the Carhart four-factor model has also been proposed (Mark Carhart, 1997, "On Persistence in Mutual
The Dybvig Corporation's common stock has a beta of 1.17. If the risk-free rate is 3.8 percent and the expected return on the market is 11 percent, what is Dybvig's cost of equity capital?
Kose, Inc., has a target debt-equity ratio of .45. Its WACC is 9.8 percent, and the tax rate is 35 percent.a. If Kose's cost of equity is 13 percent, what is its pretax cost of debt?b. If instead
Given the following information for Huntington Power Co., find the WACC. Assume the company's tax rate is 35 percent.Debt: 10,000 5.6 percent coupon bonds outstanding, $1,000 par value, 25 years to
Titan Mining Corporation has 8.7 million shares of common stock outstanding and 230,000 6.4 percent semiannual bonds outstanding, par value $1,000 each. The common stock currently sells for $37
Southern Alliance Company needs to raise $55 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
Och, Inc., is considering a project that will result in initial after tax cash savings of $2.9 million at the end of the first year, and these savings will grow at a rate of 4 percent per year
The Saunders Investment Bank has the following financing outstanding. What is the WACC for the company?Debt: 50,000 bonds with a coupon rate of 5.7 percent and a current price quote of 106.5; the
Floyd Industries stock has a beta of 1.15. The company just paid a dividend of $.85, and the dividends are expected to grow at 4.5 percent per year. The expected return on the market is 11 percent,
Advance, Inc., is trying to determine its cost of debt. The firm has a debt issue outstanding with 13 years to maturity that is quoted at 95 percent of face value. The issue makes semiannual payments
Schultz Industries is considering the purchase of Arras Manufacturing. Arras is currently a supplier for Schultz, and the acquisition would allow Schultz to better control its material supply. The
Photochronograph Corporation (PC) manufactures time series photographic equipment. It is currently at its target debt-equity ratio of .55. It's considering building a new $50 million manufacturing
This is a comprehensive project evaluation problem bringing together much of what you have learned in this and previous chapters. Suppose you have been hired as a financial consultant to Defense
Shanken Corp. issued a 30-year, 5.9 percent semiannual bond 6 years ago. The bond currently sells for 108 percent of its face value. The company's tax rate is 35 percent.a. What is the pretax cost of
For the firm in the previous problem, suppose the book value of the debt issue is $35 million. In addition, the company has a second debt issue on the market, a zero coupon bond with 12 years left to
Mullineaux Corporation has a target capital structure of 70 percent common stock and 30 percent debt. Its cost of equity is 11.5 percent, and the cost of debt is 5.9 percent. The relevant tax
Miller Manufacturing has a target debt-equity ratio of .55. Its cost of equity is 12.5 percent, and its cost of debt is 7 percent. If the tax rate is 35 percent, what is the company's WACC?
Fama's Llamas has a weighted average cost of capital 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
In the previous problem, suppose the company's stock has a beta of 1.15. The risk-free rate is 3.7 percent, and the market risk premium is 7 percent. Assume that the overall cost of debt is the
You have recently been hired by Swan Motors, Inc. (SMI), in its relatively new treasury management department. SMI was founded 8 years ago by Joe Swan. Joe found a method to manufacture a cheaper
For each of the following scenarios, discuss whether profit opportunities exist from trading in the stock of the firm under the conditions that(1) The market is not weak form efficient,(2) The market
Explain why a characteristic of an efficient market is that investments in that market have zero NPVs?
Several celebrated investors and stock pickers frequently mentioned in the financial press have recorded huge returns on their investments over the past two decades. Does the success of these
You have been at your job with East Coast Yachts for a week now and have decided you need to sign up for the company's 401(k) plan. Even after your discussion with Sarah Brown, the Bledsoe Financial
Williams Industries has decided to borrow money by issuing perpetual bonds with a coupon rate of 6.5 percent, payable annually. The one-year interest rate is 6.5 percent. Next year, there is a 35
An election is being held to fill three seats on the board of directors of a firm in which you hold stock. The company has 17,400 shares outstanding. If the election is conducted under cumulative
Beasley, Inc. is going to elect nine board members next month. Betty Brown owns 12.4 percent of the total shares outstanding. How confident can she be of having one of her candidate friends elected
Kiedis, Corp., has interest-bearing debt with a market value of $65 million. The company also has 2 million shares that sell for $25 per share. What is the debt-equity ratio for this company based on
Frusciante, Inc., has 290,000 bonds outstanding. The bonds have a par value of $1,000, a coupon rate of 7 percent paid semiannually, and 8 years to maturity. The current YTM on the bonds is 7.5
Harrison, Inc., has the following book value balance sheet:a. What is the debt-equity ratio based on book values?b. Suppose the market value of the company's debt is $225 million and the market value
What factors influence a firm's choice of external versus internal equity financing?
Scarlett Corp. uses no debt. The weighted average cost of capital is 8.4 percent. If the current market value of the equity is $43 million and there are no taxes, what is EBIT?
In the previous question, suppose the corporate tax rate is 35 percent. What is EBIT in this case? What is the WACC? Explain.
Weston Industries has a debt-equity ratio of 1.5. Its WACC is 10.5 percent, and its cost of debt is 6 percent. The corporate tax rate is 35 percent.a. What is the company's cost of equity
Shadow Corp. has no debt but can borrow at 6.5 percent. The firm's WACC is currently 9.8 percent, and the tax rate is 35 percent.a. What is the company's cost of equity?b. If the company converts to
In Problem 14, what is the cost of equity after recapitalization? What is the WACC? What are the implications for the firm's capital structure decision?Refer to Problem 14,Bruce & Co. expects
Levered, Inc., and Unlevered, Inc., are identical in every way except their capital structures. Each company expects to earn $23 million before interest per year in perpetuity, with each company
Tool Manufacturing has an expected EBIT of $67,000 in perpetuity and a tax rate of 35 percent. The firm has $130,000 in outstanding debt at an interest rate of 8 percent, and its unlevered cost of
The Dart Company is financed entirely with equity. The company is considering a loan of $2.6 million. The loan will be repaid in equal installments over the next two years, and it has an interest
Alpha Corporation and Beta Corporation are identical in every way except their capital structures. Alpha Corporation, an all-equity firm, has 18,000 shares of stock outstanding, currently worth $35
Acetate, Inc., has equity with a market value of $29.5 million and debt with a market value of $8 million. Treasury bills that mature in one year yield 5 percent per year, and the expected return on
The Veblen Company and the Knight Company are identical in every respect except that Veblen is not levered. The market value of Knight Company's 6 percent bonds is $1.4 million. Financial information
Green Manufacturing, Inc., plans to announce that it will issue $1.8 million of perpetual debt and use the proceeds to repurchase common stock. The bonds will sell at par with a coupon rate of 6
Williamson, Inc., has a debt-equity ratio of 2.3. The firm's weighted average cost of capital is 10 percent, and its pretax cost of debt is 6 percent. The tax rate is 35 percent.a. What is the
Assuming a world of corporate taxes only, show that the cost of equity, RS, is as given in the chapter by MM Proposition II with corporate taxes?
Suppose a firm's business operations mirror movements in the economy as a whole very closely-that is, the firm's asset beta is 1.0. Use the result of the previous problem to find the equity beta for
Franklin Corporation is comparing two different capital structures, an all-equity plan (Plan I) and a levered plan (Plan II). Under Plan I, the company would have 315,000 shares of stock outstanding.
Kolby Corp. is comparing two different capital structures. Plan I would result in 1,300 shares of stock and $80,640 in debt. Plan II would result in 2,900 shares of stock and $19,200 in debt. The
Star, Inc., a prominent consumer products firm, is debating whether or not to convert its all-equity capital structure to one that is 35 percent debt. Currently there are 6,000 shares outstanding
ABC Co. and XYZ Co. are identical firms in all respects except for their capital structure. ABC is all equity financed with $640,000 in stock. XYZ uses both stock and perpetual debt; its stock is
Stephenson Real Estate Company was founded 25 years ago by the current CEO, Robert Stephenson. The company purchases real estate, including land and buildings, and rents the property to tenants. The
How would you answer in the following debate?Q: Isn't it true that the riskiness of a firm's equity will rise if the firm increases its use of debt financing?A: Yes, that's the essence of MM
Is there an easily identifiable debt-equity ratio that will maximize the value of a firm? Why or why not?
Janetta Corp. has EBIT of $850,000 per year that is expected to continue in perpetuity. The unlevered cost of equity for the company is 14 percent, and the corporate tax rate is 35 percent. The
Tom Scott is the owner, president, and primary salesperson for Scott Manufacturing. Because of this, the company's profits are driven by the amount of work Tom does. If he works 40 hours each week,
Dream, Inc., has debt outstanding with a face value of $5 million. The value of the firm if it were entirely financed by equity would be $18.65 million. The company also has 360,000 shares of stock
Edwards Construction currently has debt outstanding with a market value of $75,000 and a cost of 9 percent. The company has EBIT of $6,750 that is expected to continue in perpetuity. Assume there are
Good Time Company is a regional chain department store. It will remain in business for one more year. The probability of a boom year is 60 percent and the probability of a recession is 40 percent. It
Sam McKenzie is the founder and CEO of McKenzie Restaurants, Inc., a regional company. Sam is considering opening several new restaurants. Sally Thornton, the company's CFO, has been put in charge of
Refer to the observed capital structures given in Table 17.3 of the text. What do you notice about the types of industries with respect to their average debt-equity ratios? Are certain types of
As mentioned in the text, some firms have filed for bankruptcy because of actual or likely litigation-related losses. Is this a proper use of the bankruptcy process?
Zoso is a rental car company that is trying to determine whether to add 25 cars to its fleet. The company fully depreciates all its rental cars over five years using the straight-line method. The new
Triad Corporation has established a joint venture with Tobacco Road Construction, Inc., to build a toll road in North Carolina. The initial investment in paving equipment is $93 million. The
MVP, Inc., has produced rodeo supplies for over 20 years. The company currently has a debt-equity ratio of 50 percent and is in the 40 percent tax bracket. The required return on the firm's levered
Neon Corporation's stock returns have a covariance with the market portfolio of .0415. The standard deviation of the returns on the market portfolio is 20 percent, and the expected market risk
Dorman Industries has a new project available that requires an initial investment of $4.3 million. The project will provide unlevered cash flows of $710,000 per year for the next 20 years. The
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