Could I get some help on my finance homework please?
#7. Consider two firms A and B that are identical in all respects except capital structure. Firm A has $100 million in equity outstanding and $40 million in bonds outstanding. Firm B has $140 million in equity outstanding and $0 million in bonds outstanding. There are no taxes. (a) Suppose an investor has a $5 million investment in the stock of firm A. What alternative $5 million investment that includes firm B's stock will give the investor the same cash flow payoff in future years as his current investment in firm A's stock? (Hint: I am looking for the amount of cash you would invest in firm B's stock and the amount of cash you would either invest in other securities or borrow from other sources so that $5 million comes out of your pocket today and you get the exact same cash payoff down the road as the current $5 million investment in firm A's stock. See the Modigliani and Miller proof.) (b) Suppose an investor has a $7 million investment in the stock of firm B. What alternative $7 million investment that includes firm A's stock will give the investor the same cash flow payoff in future years as his current investment in firm B's stock? (Hint: I am looking for the amount of cash you would invest in firm A's stock and the amount of cash you would either invest in other securities or borrow from other sources so that $7 million comes out of your pocket today and you get the exact same cash payoff down the road as the current $7 million investment in firm B's stock. See the Modigliani and Miller proof.) #8. Firms X and Y are identical in all respects except for capital structure. These firms operate in a tax-exempt haven where firms and individuals pay no taxes at all. Current data on the financial structure of the two firms is as follows: Firm X: 1,000 shares outstanding, current market price of $10 per share 100 bonds outstanding with a current bond price of $100 per bond Firm Y: 2,000 shares outstanding, current market price of $9 per share 50 bonds outstanding with a current bond price of $100 per bond The bonds in both firms are risk free and they are zero-coupon bonds that will pay the holder principal and interest one year from today. The risk-free interest rate is 10%. An individual investor can also borrow or lend from a bank at the 10% risk-free rate. Construct an arbitrage portfolio that includes exactly 100 shares of stock in firm X. How large are the arbitrage profits from this portfolio? #9. Buckeye Corp. is currently an all-equity firm with a market value of equity of $100 million. The current expected return on Buckeye's equity is 25%. Buckeye operates in a world with no taxes. Buckeye is planning on issuing $10 million in debt with an interest rate of 10% and using the cash to repurchase $10 million in shares. There are no corporate or personal taxes. (a) After Buckeye repurchases the stock, what will be the expected return on the firm's stock? (b) After Buckeye repurchases the stock, what will be the firm's weighted average cost of capital? #10. A firm is currently partially financed with zero-coupon debt that promises to repay bondholders $200 at maturity. These bonds mature one year from today at t=1. The firm is in a very risk industry, so its assets will be worth $400 next year with probability 1/3, $200 next year with probability 1/3, and $100 next year with probability 1/3. The existing debtholders were very trustful of management, so they did not insist on any clauses governing issuance of additional debt. It turns out that this was a mistake. The firm is planning on issuing new debt that is senior to the old debt (i.e., in bankruptcy the new debtholders are first in line to get their cash back). This new debt promises to pay these new debtholders $100 at maturity. Assume for simplicity that interest rates are zero and thus that the value of a claim today at t=0 is equal to the expected payoff to the claimholder at t=1. The firm operates in a world with no taxes. (a) What will the new debt sell for? (b) Assuming that the proceeds from the new debt issue are used to pay a special dividend to shareholders, after the debt is issued what will be the value of (i) the old debt, (ii) the new debt, and (iii) equity? Has total firm value changed? Who is made better off or worse off from the transaction? #11. Green Manufacturing is an all equity firm with a current market value of $20,000,000 and 500,000 shares outstanding. The current expected return on the firm's stock is 20%. Green plans to announce that it will issue $2,000,000 of perpetual bonds and use these funds to repurchase equity. The bonds will have a 6% interest rate. After the sale of the bonds and the share repurchase, Green will maintain the new capital structure indefinitely. The corporate tax rate for Green is 30% and there are no personal taxes. (a) What will the stock price be immediately after Green announces its plan to issue bonds and repurchase equity? (b) What will the total market value of the firm's equity be immediately after Green announces its plan to issue bonds and repurchase equity? (c) How many shares will Green repurchase? (d) What will be the market value of Green's equity after the bond issue and share repurchase are completed? (e) What was Green's weighted average cost of capital before the change in capital structure? (f) What is Green's weighted average cost of capital after the change in capital structure? #12. Wolverine Manufacturing is an all equity firm that had a loss of $1 million this year. This loss can be carried forward against next year's income. There is a 50% chance that Wolverine will have a pre-tax income of $2 million next year and a 50% chance that their pre-tax income will be $500,000 next year. The corporate tax rate is 40% and there are no personal taxes. If Wolverine takes on $2,000,000 in debt which promises a 10% annual interest payment, what are the expected corporate tax savings from the debt for next year? #13. A firm currently is an all equity firm with a market value of $600,000,000. The firm is contemplating dramatically increasing its leverage by selling $150,000,000 in bonds and using the proceeds to repurchase equity. The bonds promise a 10% interest payment at the end of each year. The bonds are structured so that the firm will pay exactly $50,000,000 of the principal back at the end of the third year, sixth year, and ninth year, and thus the bonds will be fully retired at the end of the ninth year. The corporate tax rate is 30% and there are no personal taxes. What will the market value of the firm be the moment after this deal is announced? #14. A firm currently has equity with a market value of $600,000,000 and debt with a market value of $500,000,000. The firm has 10,000,000 shares outstanding. The bonds offer investors a return of 8%. The firm is contemplating issuing $300,000,000 in new equity and using the proceeds to repurchase $300,000,000 of the firm's debt. The corporate tax rate is 35%, the effective personal tax rate on equity income is 10% and the effective personal tax rate on interest income is 20%. (a) What will the firm's stock price be immediately after the firm announces its refinancing plan? (b) How many shares will the firm issue? (c) What is the market value of the firm's (i) debt and (ii) equity immediately before the refinancing plan is announced? (d) Calculate the market value of the firm's (i) debt and (ii) equity immediately after the refinancing plan is announced (but before it is actually executed). (e) Calculate the market value of the firm's (i) debt and (ii) equity after the equity issue and bond repurchase are completed. #15. Municipal bonds are currently offering investors a 6% return and corporate bonds with the same maturity and default risk are offering investors an 8% return. (a) What is the after-tax return on municipal bonds for an investor in the 30% tax bracket? (b) What is the after-tax return on corporate bonds for an investor in the 30% tax bracket? (c) At what personal tax rate would an investor be indifferent between corporate bonds and municipal bonds? #16. Good Time Co. is a regional chain department store. It will remain in business for one more year. The estimated probability of a boom next year is .60 and the estimated probability of a recession is .40. It is projected that Good Time will have a total cash flow of $250 million in a boom year and $100 million in a recession. Good Time's required debt repayment next year is $150 million. The firm has few fixed assets, so assume that after next year is over the firm will be liquidated for $0. Assume also that investors are risk-neutral and that interest rates are zero (i.e., no discounting is necessary). There are no taxes. (a) Assuming that there were no financial distress costs or bankruptcy costs, calculate the market value of Good Time's (i) equity and (ii) debt. (b) If the market value of equity is actually $60 million and the market value of debt is actually $125 million, what is the market's estimate of financial distress/bankruptcy costs? #17. Fountain Corporation economists estimate that the probability of a good business environment next year is equal to the probability of a bad environment. Knowing this, the managers of Fountain must choose between two mutually exclusive projects. Suppose the payoff from the chosen project is the only future cash flow expected by the firm. Fountain is obliged to make a $1000 payment to its bondholders next year. Here is a description of the projects: Recessio .5 1000 0 1000 n Boom .5 1400 400 1000
