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fundamentals of corporate finance

Questions and Answers of Fundamentals Of Corporate Finance

5. What other costs or benefits of the additional leverage should Midco’s managers consider?
4. Who benefits from the recap? Who loses?
3. At what price should Midco be able to repurchase its shares?
2. Based only on the tax effects and the Valuation Principle, what will be the total value of the firm after the recap?a. How much of the new value will be equity?b. How much will be debt?
1. What are the tax consequences of the recap?
In your role as a consultant at a wealth management firm, you have been assigned a very powerful client who holds 1 million shares of Cisco Systems, Inc., purchased on February 28, 2003. In
25. If Berkshire Hathaway’s A shares are trading at $120,000, what split ratio would it need to bring its stock price down to $50?
*22. Given your answer to Problem 21, what effect would you expect an announcement of a share repurchase to have on the stock price? Why?
21. Suppose AMC management expects good news to come out. Based on your answers to Problems 19 and 20, if management wants to maximize AMC’s ultimate share price, will they undertake the repurchase
18. What is AMC’s share price prior to the share repurchase?
16. Redo Problem 14, but assume that investors pay a 15% tax on dividends but no capital gains taxes, and that Kay does not pay corporate taxes.
15. Redo Problem 14, but assume that Kay must pay a corporate tax rate of 35%, and that investors pay no taxes.
9. Why do managers split their firms’ stock?
• Understand the role of payout policy in signaling information to the market• Describe alternate non-cash methods for payouts
• Explain how increased payouts can reduce agency problems but potentially reduce financial flexibility
• Demonstrate how taxes can create an advantage for share repurchases versus dividends
• Understand why the way in which they distribute cash flow does not affect value absent market imperfections
• Identify the different ways in which corporations can make distributions to shareholders
20. NatNah, a builder of acoustic accessories, has no debt and an equity cost of capital of 15%. NatNah decides to increase its leverage to maintain a market debt-to-value ratio of 0.5. Suppose its
10. How can leverage alter the incentives of managers?
5. What is meant by “indirect costs of financial distress”?
4. How do taxes affect the choice of debt versus equity?
• Weigh the many costs and benefits to debt that a manager must balance when deciding how to finance the firm’s investments
• Analyze how debt can alter the incentives of managers to choose different projects and can be used as a signal to investors
• Show how the optimal mix of debt and equity trades off the costs (including financial distress costs) and benefits (including the tax advantage) of debt
• Demonstrate how debt can affect a firm’s value through taxes and bankruptcy costs
• Describe how leverage increases the risk of a firm’s equity
• Understand why investment decisions, rather than financing decisions, fundamentally determine the value and cost of capital of a firm
• Examine how capital structures vary across industries and companies
9. Assume that in the five years following the LBO Hannah was able to turn the company around. Over the course of this period, all the bank debt was repaid and the company went public again. The
8. A year after the LBO, just after the second payment was made, the convertible debt traded for a price of $950.a. What was its yield to maturity?b. What was the yield to call?
7. Assume the LBO was successful.a. How much bank debt was required?b. What was the debt-equity ratio immediately following the LBO?
6. Immediately following the SEO, the stock price remained at $20 per share.a. Once the term loan was repaid, what was the value of the whole company?b. What fraction of the equity did Hannah own?
5. Address the following questions related to the SEO:a. What fraction of the SEO was a primary offering and what fraction was a secondary offering?b. Assuming that the underwriters charged a 5% fee,
4. Immediately following the IPO the shares traded at $14.50.a. At this price, what was the value of the whole company? Expressed in percent, by how much was the deal underpriced?b. In dollars, how
3. What fraction of the IPO was a primary offering and what fraction was a secondary offering?
the pre-money and post-money valuation of the equity of the company.
2. At each funding stage prior to the IPO (i.e., 1985, 2000, 2003, and 2006), calculate
1. Natasha is an example of what kind of an investor?
You are working for Home Depot and have been asked to help explore the impact of a potential debt issue. The CFO and other top managers in the finance division are all aware that increasing the debt
13. You own a bond with a face value of $10,000 and a conversion ratio of 450. What is the conversion price?
7. Describe what prepayment risk in a GNMA is.
5. Suppose on January 15, 2013, the U.S. Treasury issued a five-year inflation-indexed note with a coupon of 3%. On the date of issue, the consumer price index (CPI) was 250. By January 15, 2018, the
• Describe the various options available to firms for the early repayment of debt
• Understand limits within bond contracts that protect the interests of bondholders
• Identify different types of debt financing available to a firm
11. Margoles Publishing recently completed its IPO. The stock was offered at $14 per share. On the first day of trading, the stock closed at $19 per share.a. What was the initial return on
11. Why does the stock price typically decrease when a firm announces an SEO?
10. What are the advantages to a company of selling stock in an SEO using a cash offer?
9. What are the advantages of a rights offer?
6. How is the price set in an auction IPO?
• Explain how to raise additional equity capital once the company is public
• Gain insight into puzzles associated with initial public offerings
• Understand the process of taking a company public
• Contrast the different ways to raise equity capital for a private company
6. When is it appropriate to use this WACC to evaluate a new project?
5. Calculate HydroTech’s WACC.
4. Using a tax rate of 35%, calculate HydroTech’s effective cost of debt capital.
3. Calculate the cost of equity capital using the CAPM, assuming a market risk premium of 5%.
2. Compute HydroTech’s equity and (net) debt weights based on the market value of equity and the book value of net debt.
1. Calculate HydroTech’s net debt.
You work in Walt Disney Company’s corporate finance and treasury department and have been assigned to the team estimating Disney’s WACC. You must estimate this WACC in preparation for a team
21. RiverRocks’ purchase of Raft Adventures (from Problem 20) will cost $100 million, and will generate cash flows that start at $15 million in one year and then grow at 4%per year forever. What is
16. Pfd Company has debt with a yield to maturity of 7%, a cost of equity of 13%, and a cost of preferred stock of 9%. The market values of its debt, preferred stock, and equity are $10 million, $3
10. What is the right way to adjust for the costs of raising external financing?
2. Why are market-based weights important?
1. What does the WACC measure?
• Account for the direct costs of raising external capital
• Adjust the cost of capital for the risk associated with the project
• Apply the weighted average cost of capital to value projects
• Compute a firm’s overall, or weighted average, cost of capital
• Measure the costs of debt, preferred stock, and common stock
• Understand the drivers of the firm’s overall cost of capital
36. At the beginning of 2007 (the year the iPhone was introduced), Apple’s beta was 1.4 and the risk-free rate was about 4.5%. Apple’s price was $84.84. Apple’s price at the end of 2007 was
27. The Chapter Resources section of has data on Microsoft and the S&P 500 from 1986 to 2006.a. Estimate Microsoft’s beta using linear regression over the periods 1987–1991, 1992–1996,
26. Go to Chapter Resources on and use the data in the spreadsheet provided to estimate the beta of Nike stock using linear regression.
14. Using the data from Table 12.3, what is the volatility of an equally weighted portfolio of Microsoft and Coca-Cola stock?
10. Using your estimates from Problem 9 and the fact that the correlation of A and B is 0.48, calculate the volatility (standard deviation) of a portfolio that is 70% invested in stock A and 30%
6. What relation is described by the security market line?
5. What, intuitively, does the CAPM say drives expected return?
4. What does beta measure? How do we use beta?
2. What does correlation tell us?
• Use the Capital Asset Pricing Model (CAPM) to compute the cost of equity capital for a stock
• Measure systematic risk
• Understand the relation between systematic risk and the market portfolio
• Calculate the expected return and volatility(standard deviation) of a portfolio
12. Castle View Games would like to invest in a division to develop software for a soonto-be-released video game console. To evaluate this decision, the firm first attempts to project the working
13. In the HomeNet example from the chapter, its receivables are 15% of sales and its payables are 15% of COGS. Forecast the required investment in net working capital for HomeNet assuming that sales
14. Elmdale Enterprises is deciding whether to expand its production facilities.Although long-term cash flows are difficult to estimate, management has projected the following cash flows for the
You have just been hired by Intel in its finance division. Your first assignment is to determine the net cash flows and NPV of a proposed new generation of mobile chips.Capital expenditures to
8. Sora Industries has 60 million outstanding shares, $120 million in debt, $40 million in cash, and the following projected free cash flow for the next four years (see for the data in Excel
16. After researching the competitors of EJH Enterprises, you determine that most comparable firms have the following valuation ratios (see for the data in Excel format):EJH Enterprises has EPS of
20. Consider the following data for the airline industry for December 2015(EV = enterprise value, Book = equity book value). Discuss the potential challenges of using multiples to value an airline.
13. Using the data in the following table, calculate the return for investing in this stock from January 1 to December 31. Prices are after the dividend has been paid (see for the data in Excel
15. Using the data in the following table, calculate the return for investing in this stock from January 1 to December 31. Prices are after the dividend has been paid (see for the data in Excel
=1/ Why is capital employed equal to invested capital?
= 2/ What is the leverage effect?
= 3/ How is the leverage effect calculated?
=6/Why is goodwill a problem when calculating ROCE?
=7/What is the basic purpose of the leverage effect?

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