Questions and Answers of Corporate Finance 8th Canadian

Hubbard Industries is an all-equity firm whose shares have an expected return of 10.9%. Hubbard does a leveraged recapitalization, issuing debt and repurchasing stock, until its debtequity ratio is
Hartford Mining has 90 million shares that are currently trading for $2 per share and $160 million worth of debt. The debt is risk free and has an interest rate of 4%, and the expected return of
Mercer Corp. is a firm with 10 million shares outstanding and $84 million worth of debt outstanding. Its current share price is $73. Mercer’s equity cost of capital is 8.5%. Mercer has just
Indell stock has a current market value of $150 million and a beta of 0.70. Indell currently has risk-free debt as well. The firm decides to change its capital structure by issuing $39.34 million in
Yerba Industries is an all-equity firm whose stock has a beta of 0.70 and an expected return of 18.50%. Suppose it issues new risk-free debt with a 6.50% yield and repurchases 5% of its stock. Assume
You are the CEO of a high-growth technology firm. You plan to raise $160 million to fund an expansion by issuing either new shares or new debt. With the expansion, you expect earnings next year of
Zelnor, Inc., is an all-equity firm with 130 million shares outstanding currently trading for $15.52 per share. Suppose Zelnor decides to grant a total of 13 million new shares to employees as part
Suppose Levered Bank is funded with 2.2% equity and 97.8% debt. Its current market capitalization is $10.04 billion, and its market to book ratio is 0.9. Levered Bank earns a 4.19% expected return on
Pelamed Pharmaceuticals has EBIT of $133 million in 2006. In addition, Pelamed has interest expenses of $49 million and a corporate tax rate of 35%.a. What is Pelamed’s 2006 net income?b. What is
Grommit Engineering expects to have net income next year of $24.21 million and free cash flow of $12.11 million. Grommit’s marginal corporate tax rate is 30%.a. If Grommit increases leverage so
Your firm currently has $116 million in debt outstanding with a 8% interest rate. The terms of the loan require it to repay $29 million of the balance each year. Suppose the marginal corporate tax
Arnell Industries has just issued $15 million in debt (at par). The firm will pay interest only on this debt. Arnell’s marginal tax rate is expected to be 35% for the foreseeable future.a. Suppose
Ten years have passed since Arnell issued $15 million in perpetual interest only debt with a 7% annual coupon, as in Problem 6. Tax rates have remained the same at 35% but interest rates have
Bay Transport Systems (BTS) currently has $60 million in debt outstanding. In addition to 10% interest, it plans to repay 4% of the remaining balance each year. If BTS has a marginal corporate tax
Safeco Inc. has no debt and maintains a policy of holding $11 million in excess cash reserves, invested in risk-free Treasury securities. If Safeco pays a corporate tax rate of 35%, what is the cost
Rogot Instruments makes fine violins and cellos. It has $1.3 million in debt outstanding, equity valued at $2.7 million, and pays corporate income tax at rate of 33%. Its cost of equity is 12% and
Rumolt Motors has 58 million shares outstanding with a share price of $26 per share. In addition, Rumolt has issued bonds with a total current market value of $991 million. Suppose Rumolt’s equity
Restex maintains a debt-equity ratio of 0.78, has an equity cost of capital of 12%, and a debt cost of capital of 7%. Restex’s corporate tax rate is 38%, and its market capitalization is $258
Acme Storage has a market capitalization of $72 million and debt outstanding of $100 million. Acme plans to maintain this same debt-equity ratio in the future. Acme pays interest of 7.4% on its debt
Milton Industries expects free cash flow of $18 million each year. Milton’s corporate tax rate is 38%, and its unlevered cost of capital is 16%. Milton also has outstanding debt of $75.25 million,
Suppose Microsoft has 7.26 billion shares outstanding and pays a marginal corporate tax rate of 31%. If Microsoft announces that it will pay out $42 billion in cash to investors through a combination
Kurz Manufacturing is currently an all-equity firm with 27 million shares outstanding and a stock price of $15 per share. Although investors currently expect Kurz to remain an all-equity firm, Kurz
Rally, Inc., is an all-equity firm with assets worth $22 billion and six billion shares outstanding. Rally plans to borrow $7 billion and use funds to repurchase shares. The firm’s corporate tax
Suppose the corporate tax rate is 35%, and investors pay a tax rate of 25% on income from dividends or capital gains and a tax rate of 32.4% on interest income. Your firm decides to add debt so it
Markum Enterprises is considering permanently adding $127 million of debt to its capital structure. Markum’s corporate tax rate is 40%.a. Absent personal taxes, what is the value of the interest
Garnet Corporation is considering issuing risk-free debt or risk-free preferred stock. The tax rate on interest income is 32%, and the tax rate on dividends or capital gains from preferred stock is
Suppose the tax rate on interest income is 40%, and the average tax rate on capital gains and dividend income is 15%. How high must the marginal corporate tax rate be to offer a tax advantage?
PMF, Inc. is equally likely to have EBIT this coming year of $7 million, $13 million, or $19 million. Its corporate tax rate is 35%, and investors pay a 15% tax rate on income from equity and a 40%
Gladstone Corporation is about to launch a new product. Depending on the success of the new product, Gladstone may have one of four values next year: $147 million, $136 million, $91 million, or $82
Baruk Industries has no cash and a debt obligation of $31 million that is now due. The market value of Baruk’s assets is $77 million, and the firm has no other liabilities. Assume perfect capital
Suppose Tefco Corp. has a value of $179 million if it continues to operate, but has outstanding debt of $181 million that is now due. If the firm declares bankruptcy, bankruptcy costs will equal $11
You have received two job offers. Firm A offers to pay you $79,000 per year for two years. Firm B offers to pay you $83,000 for two years. Both jobs are equivalent. Suppose that firm A’s contract
As in Problem 1, Gladstone Corporation is about to launch a new product. Depending on the success of the new product, Gladstone may have one of four values next year: $147 million, $136 million, $91
Kohwe Corporation plans to issue equity to raise $40 million to finance a new investment. After making the investment, Kohwe expects to earn free cash flows of $9 million each year. Kohwe currently
Facebook, Inc. has no debt. As Problem 21 in Chapter 15 makes clear, by issuing debt Facebook can generate a very large tax shield potentially worth nearly $2 billion. Given Facebook’s success, one
Hawar International is a shipping firm with a current share price of $6 and 15 million shares outstanding. Suppose Hawar announces plans to lower its corporate taxes by borrowing $10 million and
Your firm is considering issuing one-year debt, and has come up with the following estimates of the value of the interest tax shield and the probability of distress for different levels of
Marpor Industries has no debt and expects to generate free cash flows of $17 million each year. Marpor believes that if it permanently increases its level of debt to $45 million, the risk of
Sarvon Systems has a debt-equity ratio of 1.5, an equity beta of 1.9, and a debt beta of 0.23. It currently is evaluating the following projects, none of which would change the firm’s volatility
Zymase is a biotechnology startup firm. Researchers at Zymase must choose one of three different research strategies. The payoffs (after-tax) and their likelihood for each strategy are shown below.
Consider the setting of Problem 21, and suppose Petron Corp. has debt with a face value of $32 million outstanding. For simplicity assume all risk is idiosyncratic, the risk-free interest rate is
Consider the setting of Problems 21 and 22, and suppose Petron Corp. must pay a 25% tax rate on the amount of the final payoff that is paid to equity holders. It pays no tax on payments to, or
Ralston Enterprises has assets that will have a market value in one year as shown below:That is, there is a 3% chance the assets will be worth $65 million, a 7% chance the assets will be worth $75
If it is managed efficiently, Remel, Inc., will have assets with a market value of $49.5 million, $101.4 million, or $148.8 million next year, with each outcome being equally likely. However,
Info Systems Technology (IST) manufactures microprocessor chips for use in appliances and other applications. IST has no debt and 50 million shares outstanding. The correct price for these shares is
“We R Toys” (WRT) is considering expanding into new geographic markets. The expansion will have the same business risk as WRT’s existing assets. The expansion will require an initial investment
What options does a firm have to spend its free cash flow after it has satisfied all interest obligations?
ABC Corporation announced that it will pay a dividend to all shareholders of record as of Monday, April 2, 2012. It takes three business days of a purchase for the new owners of a share of stock to
RFC Corp. has announced a $1.32 dividend. If RFC’s price last price cum-dividend is $13.21, what should its first ex-dividend price be (assuming perfect capital markets)?
EJH Company has a market capitalization of $1.3 billion and 10 million shares outstanding. It plans to distribute $120 million through an open market repurchase. Assuming perfect capital markets:a.
KMS Corporation has assets with a market value of $422 million, $36 million of which are cash. It has debt of $186 million and 18 million shares outstanding. Assume perfect capital markets.a. What is
Natsam Corporation has $150 million of excess cash. The firm has no debt and 350 million shares outstanding with a current market price of $11 per share. Natsam’s board has decided to pay out this
Suppose that all capital gains are taxed at a 24% rate, and that the dividend tax rate is 38%. Arbuckle Corp. is currently trading for $32 and is about to pay a $4 special dividend.a. Absent any
You purchased CSH stock for $34 one year ago and it is now selling for $46. The company has announced that it plans a $12 special dividend. You are considering whether to sell the stock now or wait
Que Corporation pays a regular dividend of $1 per share. Typically, the stock price drops by $0.84 per share when the stock goes ex-dividend. Suppose the capital gains tax rate is 18%, but investors
Clovix Corporation has $43 million in cash, 11 million shares outstanding, and a current share price of $25. Clovix is deciding whether to use the $43 million to pay an immediate special dividend of
Harris Corporation has $243 million in cash and 147 million shares outstanding. Suppose the corporate tax rate is 35% and investors pay no taxes on dividends, capital gains, or interest income.
Raviv Industries has $97 million in cash that it can use for a share repurchase. Suppose instead Raviv invests the funds in an account paying 8% interest for one year.a. If the corporate tax rate is
Use the data in Table 15.3 to calculate the tax disadvantage of retained cash in the following:a. 1998b. 1976Table 15.3 TABLE 15.3 Year 1971-1978 1979-1981 1982-1986 1987 1988-1990 1991-1992
Explain why most companies choose to pay stock dividends (split their stock).
When might it be advantageous to undertake a reverse stock split?
Suppose Caterpillar, Inc., has 666 million shares outstanding with a share price of $73.09 and $24.41 billion in debt. If in three years, Caterpillar has 709 million shares outstanding trading for
Suppose Goodyear Tire and Rubber Company is considering divesting one of its manufacturing plants. The plant is expected to generate free cash flows of $1.69 million per year, growing at a rate of
Suppose Alcatel-Lucent has an equity cost of capital of 9.4%, market capitalization of $9.49 billion, and an enterprise value of $13 billion. Suppose Alcatel-Lucent’s debt cost of capital is 7.1%
Acort Industries has 10 million shares outstanding and a current share price of $36 per share. It also has long-term debt outstanding. This debt is risk free, is four years away from maturity, has
Suppose Goodyear Tire and Rubber Company has an equity cost of capital of 8.5%, a debt cost of capital of 7.1%, a marginal corporate tax rate of 33%, and a debt-equity ratio of 2.4. Assume that
You are a consultant who has been hired to evaluate a new product line for Markum Enterprises. The upfront investment required to launch the product is $6 million. The product will generate free cash
In year 1, AMC will earn $2100 before interest and taxes. The market expects these earnings to grow at a rate of 2.7% per year. The firm will make no net investments (i.e., capital expenditures will
Prokter and Gramble (PKGR) has historically maintained a debt-equity ratio of approximately 0.16. Its current stock price is $48 per share, with 2.6 billion shares outstanding. The firm enjoys very
Amarindo, Inc. (AMR), is a newly public firm with 10.5 million shares outstanding. You are doing a valuation analysis of AMR. You estimate its free cash flow in the coming year to be $15.37 million,
Remex (RMX) currently has no debt in its capital structure. The beta of its equity is 1.32. For each year into the indefinite future, Remex’s free cash flow is expected to equal $21 million. Remex
You are evaluating a project that requires an investment of $108 today and provides a single cash flow of $118 for sure one year from now. You decide to use 100% debt financing, that is, you will
Tybo Corporation adjusts its debt so that its interest expenses are 21% of its free cash flow. Tybo is considering an expansion that will generate free cash flows of $2.16 million this year and is
Your firm is considering building a $597 million plant to manufacture HDTV circuitry. You expect operating profits (EBITDA) of $141 million per year for the next 10 years. The plant will be
DFS Corporation is currently an all-equity firm, with assets with a market value of $155 million and 4 million shares outstanding. DFS is considering a leveraged recapitalization to boost its share
Your firm is considering a $120 million investment to launch a new product line. The project is expected to generate a free cash flow of $20 million per year, and its unlevered cost of capital is 8%.
Arden Corporation is considering an investment in a new project with an unlevered cost of capital of 8.5%. Arden’s marginal corporate tax rate is 37%, and its debt cost of capital is 4.8%.a.
XL Sports is expected to generate free cash flows of $11.2 million per year. XL has permanent debt of $35 million, a tax rate of 37%, and an unlevered cost of capital of 10.4%.a. What is the value of
Propel Corporation plans to make a $50.2 million investment, initially funded completely with debt. The free cash flows of the investment and Propel’s incremental debt from the project
Gartner Systems has no debt and an equity cost of capital of 10.8%. Gartner’s current market capitalization is $97 million, and its free cash flows are expected to grow at 2.9% per year.
Revtek, Inc., has an equity cost of capital of 12.6% and a debt cost of capital of 6.3%. Revtek maintains a constant debt-equity ratio of 0.5, and its tax rate is 34%.a. What is Revtek’s WACC given
Calculate Ideko’s unlevered cost of capital when Ideko’s unlevered beta is 1.1 rather than 1.2, and all other required estimates are the same as in the chapter.
Calculate Ideko’s unlevered cost of capital when the market risk premium is 6% rather than 5%, the risk-free rate is 5% rather than 4%, and all other required estimates are the same as in the
What is the difference between a European option and an American option? Are European options available exclusively in Europe and American options available exclusively in the United States?
Which of the following positions benefit if the stock price increases?a. Long position in a callb. Short position in a callc. Long position in a putd. Short position in a put
Assume that you have shorted the call option in Problem 6.a. If the stock is trading at $46 in three months, what will you owe?b. If the stock is trading at $32 in three months, what will you owe?c.
Assume you have shorted the put option in Problem 8.a. If the stock is trading at $2 in three months, what will you owe?b. If the stock is trading at $21 in three months, what will you owe?c. Draw a
Dynamic Energy Systems stock is currently trading for $32 per share. The stock pays no dividends. A one-year European put option on Dynamic with a strike price of $41 is currently trading for $9.18.
Suppose Amazon stock is trading for $780 per share, and Amazon pays no dividends.a. What is the maximum possible price of a call option on Amazon?b. What is the maximum possible price of a put option
Explain why an American call option on a non-dividend-paying stock always has the same price as its European counterpart.
Consider an American put option on XAL stock with a strike price of $49 and one year to expiration. Assume XAL pays no dividends, it is currently trading for $8 per share, and the one-year interest
The stock of Harford Inc. is about to pay a $0.22 dividend. It will pay no more dividends for the next month. Consider call options that expire in one month. If the interest rate is 5% APR (monthly
Suppose the S&P 500 is at 899, and a one-year European call option with a strike price of $428 has a negative time value. If the interest rate is 6%, what can you conclude about the dividend yield of
Suppose the S&P 500 is at 899, and it will pay a dividend of $27 at the end of the year. Suppose also that the interest rate is 3%. If a one-year European put option has a negative time value, what
Wesley Corp. stock is trading for $24 per share. Wesley has 24 million shares outstanding and a market debt-equity ratio of 0.44. Wesley’s debt is zero-coupon debt with a 5-year maturity and a
Use the option data from July 13, 2009 in the following table to determine the rate Google would have paid if it had issued $101.89 billion in zero-coupon debt due in January 2011. Suppose Google
The current price of Estelle Corporation stock is $25. In each of the next two years, this stock price will either go up by 24% or go down by 24%. The stock pays no dividends. The one-year risk-free
Eagletron’s current stock price is $10. Suppose that over the current year, the stock price will either increase by 102% or decrease by 56%. Also, the risk-free rate is 25% (EAR).a. What is the
What is the highest possible value for the delta of a call option? What is the lowest possible value? See Figure 21.1.Figure 21.1 Payoff ($) 30 20 10 -10 -20 10 20 30 40 Call Option 50 60 70
Hema Corp. is an all equity firm with a current market value of $1340 million (i.e., $1.34 billion) and will be worth $1206 million or $1876 million in one year. The risk-free interest rate is 5%.

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