Task06.

Given the discussions we had during lecture one, use your understanding and knowledge gained from such lecture and answer the following questions. Kindly submit online, your appropriate answers

1) There is a conflict of interest between stockholders and managers. In theory, stockholders are expected to exercise control over managers through the annual meeting or the board of directors. In practice, why might these disciplinary mechanisms not work?

2. Stockholders can transfer wealth from bondholders through a variety of actions. How would the following actions by stockholders transfer wealth from bondholders?

? a. An increase in dividends

? b. A leveraged buyout

? c. Acquiring a risky business

? How would bondholders protect themselves against these actions?

3) There are some corporate strategists who have suggested that firms focus on maximizing market share rather than market prices. When might this strategy work, and when might it fail?

4) It is often argued that managers, when asked to maximize stock price, have to choose between being socially responsible and carrying out their fiduciary duty. Do you agree? Can you provide an example where social responsibility and firm value maximization go hand in hand?

CORPORATE FINANCE

Week Two-Four Lecture Assignments

Instruction

Given the discussions we had during lecture one, use your understanding and knowledge gained from such lecture and answer the following questions. Kindly submit online, your appropriate answers

Question 1

Aluworks Co. is expected to pay a $21.00 dividend next year. The dividend will decline by 10 percent annually for the following three years. In year 5, Aluworks will sell off assets worth $100 per share. The year 5 dividend, which includes a distribution of some of the proceeds of the asset sale, is expected to be $60. In year 6, the dividend is expected to decrease to $40 and will be maintained at $40 for one additional year. The dividend is then expected to grow by 5 percent annually thereafter. If the required rate of return is 12 percent, what is the value of one share of Aluworks?

Question 2

Baggai Enterprises has an ROA of 10 percent, retains 30 percent of earnings, and has an equity multiplier of 1.25. Mondale Enterprises also has an ROA of 10 percent, but it retains two-thirds of earnings and has an equity multiplier of 2.00.

1. What are the sustainable dividend growth rates for (A) Baggai Enterprises and (B)

Mondale Enterprises?

2. Identify the drivers of the difference in the sustainable growth rates of Baggai Enterprises and Mondale Enterprises.

Question 3 (Relative Valuation Approach)

Company A's EPS is $1.50. Its closest competitor, Company B, is trading at a P/E of

22. Assume the companies have a similar operating and financial profile.

a). If Company A's stock is trading at $37.50, what does that indicate about its value relative to Company B?

b). If we assume that Company A's stock should trade at about the same P/E as Company

B's stock, what will we estimate as an appropriate price for Company A's stock?

Question 4

Toyota Motor Corporation (TYO: 7203; NYSE: TM) is one of the world's largest vehicle manufacturers. The company's most recent fiscal year ended on 31 March 2008. In early May 2008, you are valuing Toyota stock, which closed at 5,480 on the previous day. You have used a free cash flow to equity (FCFE) model to value the company stock and have obtained a value of 6,122 for the stock. For ease of communication, you want to express your valuation in terms of a forward P/E based on your forecasted fiscal year 2009 EPS of 580. Toyota's fiscal year 2009 is from April 2008 through March 2009.

1. What is Toyota's justified P/E based on forecasted fundamentals?

2. Based on a comparison of the current price of 5,480 with your estimated intrinsic value of 6,122, the stock appears to be slightly undervalued. Use your answer to question 1 to state this evaluation in terms of P/Es.

Question 5

Joel Williams follows Sonoco Products Company (NYSE: SON), a manufacturer of paper and plastic packaging for both consumer and industrial use. SON appears to have a dividend policy of recognizing sustainable increases in the level of earnings with increases in dividends, keeping the dividend payout ratio within a range of 40 percent to 60 percent. Williams also notes: SON's most recent quarterly dividend (ex-dividend date: 15 August 2007) was $0.26, consistent with a current annual dividend of 4x $0.26 =$1.04 per year. SON's forecasted dividend growth rate is 6.0 percent per year. With a beta of 1.13, given an equity risk premium (expected excess return of equities over the risk-free rate, E [RM] - RF) of 4.5 percent and a risk-free rate (RF)of 5 percent, SON's required return on equity is r= RF + beta[E(RM) - RF]=5.0+1.13(4.5)=10.1 percent, using the capital asset pricing model (CAPM).

Williams believes the Gordon growth model may be an appropriate model for valuing SON.

1. Calculate the Gordon growth model value for SON stock.

2. The current market price of SON stock is $30.18. Using your answer to question 1, judge whether SON stock is fairly valued, undervalued, or overvalued.

Question 6

Vincent Nguyen, an analyst, is examining the stock of British Airways (London Stock Exchange: BAY) as of the beginning of 2008. He notices that the consensus forecast by analysts is that the stock will pay a ? 4 dividend per share in 2009 (based on 21 analysts) and a ? 5 dividend in 2010 (based on 10 analysts). Nguyen expects the price of the stock at the end of 2010 to be ? 250. He has estimated that the required rate of return on the stock is 11 percent. Assume all dividends are paid at the end of the year.

Required:

a) Using the DDM, estimate the value of BAY stock at the end of 2009.

b) Using the DDM, estimate the value of BAY stock at the end of 2008.

Task08.

1. Station WJXT is considering the replacement of its old fully depreciated sound mixer. Two new models are available. Mixer X has a cost of $216,600, a five-year expected life, and after-tax cash flows (including the tax shield from depreciation) of $68,200 per year. Mixer Y has a cost of $345,000, a ten-year life, and after-tax cash flows (including the tax shield from depreciation) of $83,400 per year. No new technological developments are expected. The discount rate is 12 percent. Should WJXT replace the old mixer, and, if so, with X or Y?

2. The Goodtread Rubber Company has the following two divisions.

(i)Tire Division -- which manufactures tires for new autos

Recap Division -- which manufactures recapping materials that are sold to independent recapping shops.

Since auto manufacturing moves up and down with the general economy, the Tire Division's earnings contribution to Goodtread's stock price is highly correlated with the returns on most other stocks. If the Tire Division was operated as a separate company the beta of its assets would be 1.60. The sales and earnings of the Recap Division, on the other hand, are not as cyclical since recap sales are high when people cannot afford to buy new tires. The beta of Recap's assets is 0.40. Approximately 75% of Goodtread's corporate assets are in the Tire Division and 25% in the Recap Division. Goodtread has a debt/equity ratio of 0.5. Its debt is risk free. Currently, the risk free rate is 5% and the expected return on the market portfolio is 12%. There are no taxes and the assumptions of the CAPM are satisfied.

(a)What is the required rate of return on Goodtread's stock?

(b)What discount rate should Goodtread use to evaluate capital budgeting projects? Explain your answer.

3. Western Airline has decided to raise $5M in new equity by means of a rights offering. They have decided to issue 50,000 new shares. The stock currently sells for a rights-on price of $150 per share. If the ex-rights price is expected to be $133.33 per share, answer the following questions assuming all the rights are exercised unless otherwise stated.

(a) What is the issue price?

(b) How many shares are currently outstanding (before the rights issue)?

(c) What percentage of the rights were actually exercised if the ex-rights price turns out to be $135.71?

(d) Suppose the firm anticipates that 30% of the rights will not be exercised. What should the issue price be if the other issue terms stay the same and the firm wants to raise the same amount of money?

4. If a firm borrows permanently $25 Million at an interest rate of 7%, what is the present value of the interest tax shield? If a firm borrows $25 Million for one year at an interest rate of 8%, what is the present value of the interest tax shield? (Assume the corporate tax rate Tc = 0.35)

5. A firm is proposing to undertake a scale expansion. It would cost $40 million and produce an expected cash flow of $5 million a year in perpetuity before it is taxed at the corporate rate of 34%. The firm is financed 40% by debt. The expected return on the firm's equity is 20% and the interest rate on its debt is 12%. What is the NPV of the project using the weighted average cost of capital?

C.

Complete the following questions.

You will start by constructing an amortization schedule. Your dream is finally coming true! You've saved and saved and are about to become a homeowner! After a conversation with your banker, you've agreed to a 20% down payment on your $182,188 home. To keep this problem and your calculations relatively brief, assume that the bank has offered you a mortgage loan for $145,750 that carries a 6% interest rate, semiannual payments of $26,905, and a 3-year term. Remember, the process is the same when you are preparing for either 6 semiannual payments of nearly $27,000 or 360 monthly payments of $873.85 for a 30-year conventional mortgage. Complete the following loan amortization table by entering the correct answers. Notes: 1. As all values are denominated in U.S. dollars, you do not have to enter any dollar signs. 2. Round all interest payments down to the nearest whole dollar. 3. Rounding creates a situation in which the numbers in the loan's final payment are often unequal. Notice in this problem, the ending balance for payment 6 is -$2. Therefore, your final payment would actually be reduced by $2 to $26,903. In the real world, to prevent over paying, you should call the lender to learn the actual amount due. Payment 1 Beginning Amount Payment Interest Repayment of Principal Ending Balance 2 3 4 5 Total: 6 26,905 161,430 The total of the Interest column indicates the amount of interest expected to be paid over the life of the loan, and the sum of the Payment column details the total paid ($161,430) to purchase your $145,750 home. This is an amortized loan, because its payments contain: Only accrued interest Both interest and principal Only the principal that must be repaid The monthly payment in the loan here is influenced by 3 variables: the amount borrowed, the loan's interest rate, and the term. What is the nature of the relationship between each of these variables and the size of a loan's payment, everything else assumed to remain constant? An increase in the amount borrowed will payment. An increase in the loan's interest rate will payment. An increase in the loan's term will the size of the borrower's monthly the size of the borrower's monthly the size of the borrower's monthly payment.