Quiz 5

6. Company cost of capital (S9.2) Nero Violins has the following capital structure: Total Market Value ($ millions) $100 Security Debt Preferred stock Common stock Beta 0 0.20 1.20 40 299 a. What is the firm's asset beta? (Hint: What is the beta of a portfolio of all the firm's securities?) b. Assume that the CAPM is correct. What discount rate should Nero set for investments that expand the scale of its operations without changing its asset beta? Assume a risk-free interest rate of 5% and a market risk premium of 6%. Ignore taxes.

Assume there are two firms with a MV of $50,000,000. Firm A consists of 10% debt and 90% equity. Firm B consists of 40% debt and 60% equity. Assume perfect capital markets and M&M Proposition 2 holds. Which firm will have a higher expected return for equity holders? Why? For the toolhar prace ALT+F10/PC or ALT+FN+F10 (Mac).

which one is correct please confirm? QUESTION 5 Heleveton Industries is 100% equity financed. Its current beta is 1.1. The expected market risk premium is 8.5%, and the risk-free rate is 4.2%. If Heleveton changes its capital structure to 25% debt, it estimates its beta will increase to 1.2. If the after-tax cost of debt will be 6%, should Heleveton make the capital structure change?   a. Yes, cost of capital decreases 1.67%   b. No, cost of capital increases by 0.85%   c. Yes, cost of capital decreases by 2.52%   d. No, stock price would decrease due to increased risk

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Based on the information from Question 42 ~ 44, what would be the company’s new cost of equity if it were to change its capital structure to 50% debt and 50% equity (D/S =1.0) using the CAPM?     13.8%     15.6%     16.8%     18.5%

Part II: Problem solving (30 points): A firm has determined its optimal capital structure, which is composed of the following sources and target market value proportions: Source of Capital Long-term debt Preferred stock Common stock equity Target Market Proportions 30% 5 65 Debt: The firm can sell a 20-year, $1,000 par value, 9 percent bond for $980. A flotation cost of 2 percent of the face value would be required. Preferred Stock: The firm has determined it can issue preferred stock at $65 per share par value. The stock will pay an $8.00 annual dividend. The cost of issuing and selling the stock is $3 per share. Common Stock: The firm's common stock is currently selling for $40 per share. The dividend expected to be paid at the end of the coming year is $5.07. Its dividend payments have been growing at a constant rate for the last five years. Five years ago, the dividend was $3.45. It is expected that to sell, a new common stock issue must be underpriced at $1 per share and the firm…

A company needed ghc 1000 to finance its activities. The firm can financed this expenditure either by bonds or equity. Interest rate on bonds is 10%. The company can earn ghc 160 in good years and ghc80 in bad years. Assuming the firm faces equal probability of good and bad years; i What will be the stream of returns on both bonds and equity if the company chooses the following financing options a 100% equity financing b 50% equity financing c 20% equity financing d 0% equity financing ii Estimate the equity risk associated with each option in (i) iii As an investor who wants to purchase a share in the company, which financing option will make you purchase the stock. Why????

Suppose that Taggart Transcontinental currently has no debt and has an equity cost of capital of 10%. Taggart is considering borrowing funds at a cost of 6% and using these funds to repurchase existing shares of stock. Assume perfect capital markets. If Taggart borrows until they achieved a debt-to-value ratio of 20%, then Taggart's levered cost of equity would be closest to:   11.0%   10.0%   9.2%   8.0%

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The beta of an all-equity firm is 1.2. If the firm changes its capital structure to 50% debt and 50% equity using 8% debt financing, what will be the beta of the levered firm? The beta of debt is 0.2. (Assume no taxes.) a. None of the above b. 2.2 c. 1.2 d. 2.4

Please answer this question: Firm L has debt with a market value of $200,000 and a yield of 9%. The firm's equity has a market value of $300,000, its earnings are growing at a rate of 5%, and its tax rate is 40%. A similar firm with no debt has a cost of equity of 12%. Under the MM extension with growth, what is Firm L's cost of equity? Question 4 options: 1) 11.4% 2) 12.0% 3) 12.6% 4) 13.3% 5) 14.0%

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Given the following, determine the firm’s optimal capital structure:   Debt/Assets After-Tax Cost of Debt Cost of Equity 0 % 6 % 10 % 10   6   10   20   6   10   30   8   11   40   8   12   50   10   12   60   12   14     Round your answers for capital structure to the nearest whole number and for the cost of capital to one decimal place. The optimal capital structure:   % debt and   % equity with a cost of capital of   % If the firm were using 50 percent debt and 50 percent equity, what would that tell you about the firm’s use of financial leverage? Round your answer for the cost of capital to one decimal place. If the firm uses 50% debt financing, it would be using  financial leverage. At that combination the cost of capital is   %. The firm could lower the cost of capital by substituting  . What two reasons explain why debt is cheaper than equity? Debt is cheaper than equity because interest expense  . In addition, equity investors bear  risk. If the firm were…

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b. Suppose you hold 10%  of the equity of ABC. What is another portfolio you could hold that would provide the same cash​ flow?   buy/sell ___ % of ____ debt and buy/sell ___ % of ____ equity c. Suppose you hold 10 %  of the equity of XYZ. If you can borrow at 12%​, what is an alternative strategy that would provide the same cash​ flow? ​(Select from the​ drop-down menus and round to the nearest​ integer.) buy/sell ___ % of ____ debt and buy/sell ___ % of ____ equity

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Q1. Consider an all-equity firm that is contemplating going into debt. The market value of equity is calculated as Free Cash Flow/required rate of return.                                       Current            Proposed         Assets                          $10,000           $18,000           Debt                                     $0             $8,000           Equity                         $10,000           $10,000           Debt/Equity ratio              0.00                 1.00           Interest rate                         n/a                    7%          Shares outstanding             500                 500            Share price                         $20                 $20   (a) If the required rate of return on unlevered equity is 10%, fill out the following table for the company before the debt is issued:                           Recession        Expected         Expansion EBIT                  $500             $1,000            $1,500 Interest…

c. What will the marginal cost of capital be immediately after that point? (Equity will remain at 45 percent of the capital structure, but will all be in the form of new common stock, Kn.) Note: Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places. Marginal cost of capital % d. The 5.0 percent cost of debt referred to above applies only to the first $36 million of debt. After that, the cost of debt will be 8.5 percent. At what size capital structure will there be a change in the cost of debt? Note: Enter your answer in millions of dollars (e.g., $10 million should be entered as "10"). Capital structure size (Z) million e. What will the marginal cost of capital be immediately after that point? (Consider the facts in both parts cand d.) Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places. Marginal cost of capital %