Question 11: Cost of Capital

Dominos Corporation (DOM) has a target capital structure of 30% debt, 10% preferred stock, and 60% common equity. Currently DOM has a capital structure of 75% debt, 10% preferred stock, and 15% common stock. The after tax cost of debt is 4%. The preferred stock has a par value of $100 per share, a $6 per share dividend, and a market price of $70 per share. The common stock of DOM trades at $96 per share and has a projected dividend (D1) of $2.55. The stock price and dividend are expected to continue to grow at 7% per year for the foreseeable future.

What is DOMs weighted average cost of capital (WACC)?

Question 12: (Capital Budgeting)

Consider Projects C and D, with net cash flows as follows:

---- Net Cash Flows ----

Project C Project D

Initial Cost at T-0 (Now) ($20,000) ($40,000)

cash inflow at the end of year 1 10,000 6,000

cash inflow at the end of year 2 8,000 16,000

cash inflow at the end of year 3 5,000 25,000

a. Construct NPV Profiles for these two projects.

b. If the two projects were mutually exclusive, which would you accept if your firms cost of capital were 4%? Which would you accept if your firms cost of capital were 8%?

Question 13: (Capital Budgeting)

Calculate the IRR of the following project:

Year Cash Flow

0 ($50,000)

1 $21,000

2 $23,000

3 $25,000

Question 14: (Capital Budgeting)

Calculate the Modified Internal Rate of Return (MIRR) of the project in Question 3, assuming your firms cost of capital is 7%.

Question 5: (Capital Structure) 4 points

Firms X and S are similar firms in the same industry. Firms X and Y have the same profit margin and total asset turnover when compared. However, Firm X's capital structure is 60% debt, 40% equity, and Firm Y's capital structure is 30% debt, 70% equity. Given the above conditions, which firm will experience the highest return on equity (ROE)? Why?

Question 16: (Capital Structure)

A consultant has collected the following information regarding Laure Manufacturing:

Operating income (EBIT) $600 million, Interest expense $0, Tax rate 35%, Debt $0, Cost of equity 7%, WACC 7% . The company has no growth opportunities (g = 0), so the company pays out all of its earnings as dividends . Hobbit can borrow money at a pre-tax rate of 6%. The consultant believes that if the company moves to a capital structure consisting of 30% debt and 70% equity (based on market values), which would require taking on debt in the amount of $1,728.21 million, that the cost of equity will increase to 8% and the pre-tax cost of debt will remain at 6%, but the value of the firm will rise. Is the consultant correct? If the company makes this change, what will be the increase in total market value for the firm?

Question 17: (Forecasting)

Hobby Lobby, Inc. had the financial data shown below last year. Hobby Lobby's has just invented a new toy which they expect will cause sales to double from $100,000 to $200,000, increasing net income to $16,000. The company feels they can handle the increase without adding any fixed assets.

a. Will Hobby Lobby's need any new outside funding if they pay no dividends?

b. If so, how much?

Current Assets:		Current Liabilities
Cash	$8,000	Accounts Payable	$3,500
Accounts Receivable	$4,500	Accrued Expenses	$1,500
Inventory	$9,500	Notes Payable	$20,000
Total Current Assets	$22,000	Total Current Liabilities	$25,000
Fixed Assets	$340,000	Mortgage	$265,000
TOTAL ASSETS	$362,000	Total Liabilities	$290,000
		Common Stock	$32,000
		Retained Earnings	$40,000
		Total Equity	$72,000
		TOTAL LIABILITIES AND EQUITY	$362,000

Question 18: (Working Capital Management)

Suppose it takes Hobby Lobby, Inc. 4 days to build and sell toys (on average). Also suppose it takes the firms customers 30 days, on average, to pay for the toys after they have purchased them on credit. Finally, suppose the firm is able to delay paying for the materials it uses in the manufacturing process for 30 days. Given these conditions, how long is Hobby Lobbys cash conversion cycle?

Question 19: (Working Capital Management)

If Hobby Lobbys buys $100 worth of supplies on credit with terms 2/10 n30 and pays the bill on the 25th day after the purchase:

a. What is the approximate, or nominal, cost of trade credit as an annual rate?

b. What is the exact cost of trade credit as an annual rate?