Please help me. I couldn't figure out all the 7 required answers. Baines Investments, Inc.Baines Investments, Inc. is a private equity investment company located in Dallas, Texas. Thefirm specializes in investing in privately owned firms that it feels it can sell in the future at ahigher price or eventually take public. In most cases, the firm engages in leveraged buyouts, inwhich it borrows money to buy a publicly traded company with the intention of taking it private.After restructuring the firm by selling off unnecessary assets and tightening budgets to increaseprofitability, Baines Investments and other participating investing firms eventually hope to takethe company back to the public market at a much higher price than they paid to take it private.An Upcoming DealJoel Horlen recently received his MBA from Baylor University and was hired by BainesInvestment, Inc. In his first six months on the job, he assisted other analysts in evaluatingcompanies, but now he had an assignment of his own.The company he was to assess is United Defense Systems (UDS). The firm manufactureswarships and cargo ships for the U.S. government. It also produces automatic flight control radarsystems and intercept missiles. It is privately traded.Joel's firm normally took the present value of future dividends, earnings, or cash flow todetermine value. In Joel's first analysis he decided to take the present value of future dividends.Because dividends appeared to be growing at a constant rate for the foreseeable future, hedecided to use the constant growth rate dividend valuation model in which the price (P) or valuewas equal toD,K -gA careful analysis of company data indicated that D,, or the next period's dividend would be$1.80. The growth rate g appeared to be 5.5 percent. K_ was supposed to represent the cost ofcommon equity and was normally given to him inhis classroom exercises while working on his MBA. However, his employer, Baines Investment,Inc., insisted that he use the capital asset pricing model to compute the cost (or required return)on common equity.The term K in the formula above represents the cost of common equity, but caneasily be replaced by K, the required return on common equity under the capitalasset pricing model. Once K, is computed it is merely substituted for K, in theprior formula.Now the formula for K.K, is equal to R, + B (K_ – R,)where:K, =Required return on common stockR, = Risk-free rate – use 6%K. =Market rate of return – use 11%B =Beta. The volatility of a stock'sreturn relative to the market's return.To be determined.A stock with a beta of one would be as volatile as the market. A stock with abeta of 1.20 would be 20 percent more volatile than the market, and a stock witha beta of .80 would be 20 percent less volatile than the market and so on. Thebeta was normally computed over a five-year period for a publicly tradedcompany.Because the company (UDS) that Joel Horlen was evaluating was private andhad no public stock price, Joel decided to use an alternative method to computebeta. He would take the average beta of five publicly traded companies in thesame industry as UDS (Aerospace/defense). The betas for the five companies areas follows:CompanyBetaArmour Holdings 1.40BE Aerospace1.65General Dynamics .85Lockheed Martin.80Northrop Gruman.80Required 1. Compute the average beta for the five firms in the aerospace/defenseindustry.2. Now, compute the required rate of return (K) using the capital assetpricing model. R, is equal to 6 percent and K is equal to11 percent.Use the formula:K, is equal to R, + B (K_ – R, )3. Next, compute the stock price (P) using the formula:D,P =K,-gNote K, (the required return on common stock) is being substituted forK, (the cost of common equity). They both represent the same thing,the return that stockholders demand.4. Using your answer from question 3 and assuming earnings per shareare $2.40, what is the P/E ratio?5. Because the firm is privately held and thus there is no public market forits securities, there will be a liquidity discount of 20 percent from thestock price computed in question 3. What will the adjusted stockprice be? What will the adjusted P/E be?6. Assume that Joel Horlen discovers that UDS is about to win a majornew defense department contract on combat radar systems and theCompany's value will increase by 40 percent. Ignoring the liquiditydiscount for this calculation, what will the new stock price and P/Eratio be?7. Discuss the impact of the company deciding to go public sometime inthe future on the liquidity discount.

1. Compute the average beta for the five firms in the acrospace/defense industry. 2. Now, compute the required rate of return (K) using the capital asset pricing model. R,is equal to 6 percent and K„ is equal to 11 percent. Use the formula: K, is equal to R, + B (K_ -R,). 3. Next, compute the stock price (P,) using the formula: D, P, K, -g Note K, (the required return on common stock) is being substituted for K, (the cost of common equity). They both represent the same thing, the return that stockholders demand. 4. Using your answer from question 3 and assuming earnings per share are $2.40, what is the P/E ratio?

1. Compute the average beta for the five firms in the acrospace/defense industry. 2. Now, compute the required rate of return (K) using the capital asset pricing model. R,is equal to 6 percent and K„ is equal to 11 percent. Use the formula: K, is equal to R, + B (K_ -R,). 3. Next, compute the stock price (P,) using the formula: D, P, K, -g Note K, (the required return on common stock) is being substituted for K, (the cost of common equity). They both represent the same thing, the return that stockholders demand. 4. Using your answer from question 3 and assuming earnings per share are $2.40, what is the P/E ratio?

Financial Management: Theory & Practice

16th Edition

ISBN:9781337909730

Author:Brigham

Publisher:Brigham

Chapter21: Dynamic Capital Structures And Corporate Valuation

Section: Chapter Questions

Problem 3MC: David Lyons, CEO of Lyons Solar Technologies, is concerned about his firms level of debt financing....

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North Star is trying to determine its optimal capital structure, which now consists of only common equity. The firm will add debt to its capital structure if it minimizes its WACC, but the firm has no plans to use preferred stock in its capital structure. In addition, the firm’s size will remain the same, so funds obtained from debt issued will be used to repurchase stock. The percentage of shares repurchased will be equal to the percentage of debt added to the firm’s capital structure. (In other words, if the firm’s debt-to-capital ratio increases from 0 to 25%, then 25% of the shares outstanding will be repurchased.) North Star is a small firm with average sales of $25 million or less during the past 3 years, so it is exempt from the interest deduction limitation. Its treasury staff has consulted with investment bankers. On the basis of those discussions, the staff has created the following table showing the firm’s debt cost at different debt levels: Debt-to-Capital Ratio (Wd)…
North Star is trying to determine its optimal capital structure, which now consists of only common equity. The firm will add debt to its capital structure if it minimizes its WACC, but the firm has no plans to use preferred stock in its capital structure. In addition, the firm’s size will remain the same, so funds obtained from debt issued will be used to repurchase stock. The percentage of shares repurchased will be equal to the percentage of debt added to the firm’s capital structure. (In other words, if the firm’s debt-to-capital ratio increases from 0 to 25%, then 25% of the shares outstanding will be repurchased.) North Star is a small firm with average sales of $25 million or less during the past 3 years, so it is exempt from the interest deduction limitation. Its treasury staff has consulted with investment bankers. On the basis of those discussions, the staff has created the following table showing the firm’s debt cost at different debt levels: Debt-to-Capital Ratio (Wd)…
North Star is trying to determine its optimal capital structure, which now consists of only common equity. The firm will add debt to its capital structure if it minimizes its WACC, but the firm has no plans to use preferred stock in its capital structure. In addition, the firm’s size will remain the same, so funds obtained from debt issued will be used to repurchase stock. The percentage of shares repurchased will be equal to the percentage of debt added to the firm’s capital structure. (In other words, if the firm’s debt-to-capital ratio increases from 0 to 25%, then 25% of the shares outstanding will be repurchased.) North Star is a small firm with average sales of $25 million or less during the past 3 years, so it is exempt from the interest deduction limitation. Its treasury staff has consulted with investment bankers. On the basis of those discussions, the staff has created the following table showing the firm’s debt cost at different debt levels: Debt-to-Capital Ratio (Wd)…
North Star is trying to determine its optimal capital structure, which now consists of only common equity. The firm will add debt to its capital structure if it minimizes its WACC, but the firm has no plans to use preferred stock in its capital structure. In addition, the firm’s size will remain the same, so funds obtained from debt issued will be used to repurchase stock. The percentage of shares repurchased will be equal to the percentage of debt added to the firm’s capital structure. (In other words, if the firm’s debt-to-capital ratio increases from 0 to 25%, then 25% of the shares outstanding will be repurchased.) North Star is a small firm with average sales of $25 million or less during the past 3 years, so it is exempt from the interest deduction limitation. Its treasury staff has consulted with investment bankers. On the basis of those discussions, the staff has created the following table showing the firm’s debt cost at different debt levels: Debt-to-Capital Ratio (Wd)…