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fundamentals of financial management

Questions and Answers of Fundamentals Of Financial Management

16-10. Define the EBIT-EPS indifference point.
16-9. A financial manager might say that the firm's composite cost of capital is saucer-shaped or V-shaped. What does this mean?
16-8. Who have been the foremost advocates of the independence hypothesis?
16-7. What does the term independence hypothesis mean as it applies to capital structure theory1
16-6. What condition would cause capital structure management to be a meaningless activity1
16-5. Why might firms whose sales levels change drastically over time choose to use debt only sparingly in their capital structures?
16-4. Distinguish between (a) balance sheet leverage ratios and (b) coverage ratios. Give two examples of each and indicate how they would be computed.
16-3. What is the objective of capital structure management?
16-2. What is the primary weakness ofEBIT-EPS analysis as a financing decision tool?
16-1. Define the following terms:a. Financial structureb. Capital structurec. Optimal capital structured. Debt capacity
14-3W\v. Visit www.nvca.org and assess whether or not the private equity markets have recovered their momentum since the general business contraction that commenced during 2001. This is the Web site
14-2W\v. Negative real interest rates occur when the rate of inflation exceeds the rate of interest on fixed-income financing instruments like corporate bonds, government bonds, and u.s.Ueasury
14-1W\v. Table 14-5 in the text identified all of the U.S. business cycle contractions that have occurred since the end of World War II. The tenth of these recessions began in March 2001 aocording to
14-14. Identify three distinct ways that savings are ultimately transferred to business firms'need of cash.
14-13. What is the major (most significant) savings-surplus sector in the U.S. economy?
14-12. When corporations raise funds, what type of financing vehicle (instrument or instru ments) is most favored?
14-11. As a recent business school graduate, you work directly for the corporate treasurer. Yo corporation is going to issue a new security plan and is concerned with the probable flotati costs. What
14-10. Why might a large corporation want to raise long-term capital through a private pIa ment rather than a public offering?
14-9. Why is an investment banking syndicate formed?
14-8. What is the major difference between a negotiated purchase and a competitive hi purchase?
14-7. What is an investment banker, and what major functions does he or she perform?
14-6. Why do you think most secondary market trading in bonds takes place over-the-counter?
14-5. What are the general categories examined by an organized exchange in determinin whether an applicant firm's securities can be listed on it?(Specific numbers are not needed here, but rather
14-4. What major benefits do corporations and investors enjoy because of the existence oforga'nized security exchanges?
14-3. Distinguish between the money and capital markets.
14-2. Define in a technical sense what we mean by financial intennediary. Give an example 0 your definition.
14-1. What are financial markets? What function do they perform? How would an economy be worse off without them?
13-4B. (Incentive compensation) The management of Shook Manufacturing has decided to tie employee compensation to EVA performance of the firm. The firm's CFO, Mark Shephard, is to make a presentation
13-1B. (Accounting model valuation) The Harley-Davidson Corporation's earnings for 2001 were $1.45 per share and its closing stock price for the year was $54.31. Analyst estimates of 2002 earnings
13-2WW. Go to a company's Web site that uses EVA (identified in the previous exercise). Does the company report its EVA in its financial statements?
13-1WW. You can learn more about EVA at www.sternstewart.com. What are Stern-Stewart's four Ms? Why do you think that these factors are important to maximizing shareholder value? Identify three
13-4A. (Incentive compensation) The management of Seligman Manufacturing has decided to die employee compensation to EVA performance of the firm. The firm's CFO, Virginia Whitten, is to make a
13-1A. (Accounting model valuation) Dynegy Corporation's earnings for 2001 were $1.90 per share and its closing stock price for the year was $25.50. Analysts' estimates of 2002 earnings per share are
ST-1. The earnings per share of Creamco, Inc., for the current year are $2 per share and the firm has 4 million shares outstanding. The dairy products industry in which Creamco competes consists of a
13-6. List and discuss the four basic issues that must be addressed in designing a firm's compen- sation program.
13-5. List and discuss the fundamental components of a firm's compensation program.
13-4. What is economic value added, how is it calculated, and how is it related to market value added?
13-3. List and describe four value drivers. How can a firm's management take explicit steps to manage these value drivers?
13-2. What is the free cash-flow valuation model?
13-1. What is the accounting model of equity valuation and what are its limitations?
12-14B. Bane Industries has a capital structure consisting of 60 percent common stock and 40 percent debt. A debt issue of$I,OOO par value, 8 percent bonds, maturing in ZO years and paying
12-13B. The target capital structure for Jowers Manufacturing is 50 percent common stock, 15 percent preferred stock, and 35 percent debt. If the cost of equity for the firm is ZO percent, the cost
12-118. (Cost ofdebt)a. Rework problem 12-10B asswning a 10 percent coupon rate. What effect does changing the coupon rate have on the finn's after-tax cost of capital?b. Why is there a change?
12-IOB. (Cost of debt) Gillian Stationery Corporation needs to raise $600,000 to improve its manufucturing plant. It has decided to issue a $\ ,000 par value bond with a 15 percent annual coupon rate
12-98. (Cost of equity) The common stock for the Hetterbrand Corporation sells for $60. If a new issue is sold, the flotation cost is estimated to be 9 percent. The company pays 50 percent of its
12-88. (Cost of inte17lal equity) The common stock for Oxford, Inc., is currently selling for$22.50. Dividends last year were $.80. Flotation costs on issuing stock will be 10 percent of market
12-78. (Cost ofpreferred stock) Your firm is planning to issue preferred stock. The stock sells for$120; however, if new stock is issued, the company would receive only $97. The par value of the
12-68. (Cost of debt) The Walgren Corporation is contemplating a new investment to be financed 33 percent from debt. The firm could sell new $1,000 par value bonds at a net price of$950. The coupon
12-58. (Cost ofpreferred stock) The preferred stock of Gator Industries sells for $35 and pays$2.75 in dividends. The net price of the security after issuance costs is $32.50. What is the cost of
12-48. (Cost ofdebt) Temple is issuing a $1,000 par value bond that pays 8 percent annual interest and matures in 15 years. Investors are willing to pay $950 for the bond. Flotation costs will be 11
12-38. (Cost ofequity) Falon Corporation is issuing new common stock at a market price of $28.Dividends last year were $1.30 and are expected to grow at an annual rate of 7 percent forever.Flotation
12-2B. (Individual or component costs ofcapital) Compute the cost of the following:a. A bond selling to yield 9 percent after flotation costs, but prior to adjusting for the marginal corporate tax
12-1B. (Individual 01' component costs ofcapital) Compute the cost for the following:a. A bond that has a $1,000 par value (face value) and a contract or coupon interest rate of 12 percent. A new
12-3W\V. Go to www.yahoo.com and look up financial information for Dell Computers. How does the expected growth rate in Dell earnings for the next five years compare to its industry sector and the
12-2W\V. The Federal Reserve Bank monitors interest rates on a wide variety of financial instruments.a. Go to www.federalreserve.gov/releases/hI5/update/ and find the most recent rares for U.S.
12-1W\V. You can find the latest IPOs at www.hoovers.com. Use the IPO Central to find the latest IPO pricing and filings. Go to the IPO Scorecard and find the total number and value of IPOs for the
12-14A. (Weighted average cost of capital) As a member of the Finance Department of Ranch Manufacturing, your supervisor has asked you to compute the appropriate discount rate of use when evaluating
12-13A. (Weighted average cost ofcapital) Crypton Electronics has a capital structure consisting of 40 percent common stock and 60 percent debt. A debt issue of $1,000 par value 6 percent bonds,
12-12A. (Weighted average cost ofcapital) The target capital structure for QM Industries is 40 percent common stock, 10 percent preferred stock, and 50 percent debt. If the cost of e~ty for the firm
12-11A.(Cost ofdebt)a. Rework problem 12-lOA assuming a 10 percent coupon rate. VVhat effect does changing the coupon rate have on the firm's after-tax cost of capital?b. Why is there a change?
12-10A. (Cost ofdebt) Sincere Stationery Corporation needs to raise $500,000 to improve its manufacturing plant. It has decided to issue a $1,000 par value bond with a 14 percent annual coupon rate
12-9A. (Cost ofequity) The common stock for the Bestsold Corporation sells for $58. If a new, issue is sold, the flotation costs are estimated to be 8 percent. The company pays 50 percent of its
12-8A. (Cost of internal equity) Pathos Co.'s common stock is currently selling for $21.50.Dividends paid last year were $.70. Flotation costs on issuing stock will be 10 percent of market price. The
12-7A. (Cost ofpreferred stock) Your firm is planning to issue preferred stock. The stock sells for$115; however, if new stock is issued, the company would receive only $98. The par value of the
12-6A. (Cost ofdebt) The Zephyr Corporation is contemplating a new investment to be financed 33 percent from debt. The firm could sell new $1,000 par value bonds at a net price of $945. The coupon
12-5A. (Cost ofprefe1Ted stock) The preferred stock of Walter Industries sells for $36 and pays$2.50 in dividends. The net price of the security after issuance costs is $32.50. What is the cost of
12-4A. (Cost ofdebt) Belton is issuing a $1,000 par value bond that pays 7 percent annual interest and matures in 15 years. Investors are willing to pay $958 for the bond. Flotation costs will be 11
12-3A. (Cost ofequity) Salte Corporation is issuing new common stock at a market price of $27.Dividends last year were $1.45 and are expected to grow at an annual rate of 6 percent forever.Flotation
12-2A. (Individual or crmtponmt costs ofcapital) Compute the cost for the following:a. A bond selling to yield 8 percent after flotation costs, but prior to adjusting for the marginal corporate tax
12-1A. (Individual or component com ofcapital) Compute the cost for the following:a. Abond that has a $1,000 par value (face value) and a contract or coupon interest rate of 11 percent. A new issue
ST-l. (Individual com ofcapital) Comp~te the cost for the following sources of financing:a. A $1,000 par value bond with a market price of $970 and a coupon interest rate of 10 percent. Flotation
12-6. What might we expect to see in practice in the relative costs of different sources of capital?
12-5.a. Distinguish between internal common equity and new common stock.b. Why is a cost associated with internal common equity?c. Describe the two approaches that could be used in computing the cost
12-4. How does a firm's tax rate affect its cost of capital? What is the effect of the flotation costs associated with a new security issue?
12-3. In computing the cost of capital, which sources of capital do we consider?
12-2. Why do we calculate a firm's weighted average cost of capital?
12-1. Define the term cost ofcapital.
ST-2. . [ 1 ]a. NPVA = $70,000 I - $50,000(1 + .12)= $62,500 - $50,000= 12,500 NPVB = $130,000 [ 1 1] $100,000(1 + .12)116,071 = $100,000 160,071$62,500b. PIA$50,000 1.250$116,071 PIB$100,000=
10-7B.(New PI'oject analysis) Weir's Truckin' Inc. is considering the purchase of a new production machine for $100,000. The purchase of this new machine will result in an increase in earnings before
10-6B. (New project analysis) £1 Gato's Motors is considering the purchase of a new production machine for $1 million. The purchase of this machine will result in an increase in earnings before
10-5B. (New project analysis) The Guo Chemical Corporation is considering the purchase of a chemical analysis machine. The purchase of this machine will result in an increase in earnings before
IO-2B. (Relevant cash flows) Fruity Stones is considering introducing a variation of its current breakfast cereal, Jolt 'n Stones. This new cereal will be similar to the old with the exception that
IO-IB. (Capital gains tax) The R. T. Kleinman Corporation is considering selling one of its old assembly machines. The machine, purchased for $40,000 five years ago, had an expected life of 10 years
10. Should the project be accepted? Why or why not?You have also been asked for your views on three unrelated sets of projects. Each set of projects involves two ITlUtually exclusive projects. These
9. What is its internal rate of return?
8. What is its net present value?
7. Draw a cash flow diagram for this project.
6. What is the terminal cash flow?
5. What are the differential cash flows over the project's life?
4. What is the project's initial outlay?
3. How do sunk costs affect the determination of cash flows?
2. How does depreciation affect free cash flows?
1. Should Caledonia focus on cash flows or accounting profits in making our capital-budgeting decisions? Should we be interested in incremental cash flows, incremental profits, total free cash flows,
If you're an automaker, you've got to be ready for the next generation of cars. While they may be extremely efficient gas-powered vehicles, they could also be a hybrid-gas and electricity pow- ered
lO-llA. (New project analysis) Gircia's Truckin' Inc. is considering the purchase of a new production machine for $200,000. The purchase of this machine will result in an increase in earnings before
1O-IOA. (New project analysis) Raymobile Motors is considering the purchase of a new production machine for $500,000. The purchase of this machine will result in an increase in earnings before
lO-9A. (New project analysis) The Chung Chemical Corporation is considering the purchase ofa chemical analysis machine. Although the machine being considered will result in an increase in earnings
IO-SA. (Calculatingfree cash flows) You are considering new elliptical trainers and you feel you can sell 5,000 of these per year for five years (after which time this project is expected to shut
1O-7A. (Calculating/ree cash flows) You are considering expanding your product line that currently consists of skateboards to include gas-powered skateboards, and you feel you can sell 10,000 of
10-6A. (Calculating operating cash flows) Assume that a new project will annually generate revenues of $3,000,000 and cash expenses, including both fixed and variable costs, of $900,000, while

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