Assumptions and definitions:

Marginal tax rate: 40%

Debt beta: 0.00

Risk-free rate: 4.93%

EMRP: 5%

Cost of debt: 6%

Target D/V ratio: 20%

Terminal growth rate (after 2011): 2.78%

t = 0: year 2006

NWC = Current assets (including cash and equivalents) - current liabilities

Problems:

1.Estimate unlevered free cash flows each year from 2007 to 2011, using Liedtke's base case projections (Exhibits 6 & 7). (8 marks)

2.Why is there no deduction of interest expense in Question (1)? Does EBIT(1-t) overstate the tax burden? (8 marks)

3.Estimate the firm's WACC. What is the upper bound for the firm's WACC? (10 marks)

4.Calculate the terminal value of Mercury Athletic Footwear as of the end of 2011. (8 marks)

5.What is the enterprise value of Mercury Athletic Footwear? (6 marks)

6.Calculate the firm's operating margins (EBITDA margin, EBIT margin) each year from 2007 to 2011. How working capital ratios (DSO, DSI, DPO) for 2007 - 2011 are assumed in this case? (8 marks)

7.Explain why hurdle rates are usually higher than the WACC in practice when evaluating investment opportunities. Can the same hurdle rate be applied to different opportunities? (12 marks)