all-equity firm with its expected annual before-tax earnings of $20 million in perpetuity. The current required return on the firm's equity is 16 percent. The firm distributes all of its earnings as dividends at the end of each year. Currently, the company has 1 million shares outstanding and is subject to a corporate tax rate of 35 percent. To help improve its stock price performance during a time of poor economic conditions due to the Covid-19 crisis, the firm is considering a recapitalization under which it will issue S30 million of perpetual 9 percent debt and use the proceeds to buy back shares. 1) Calculate the value of the company before the recapitalization plan is announced. What is the value of equity before the announcement? What is the price per share? 2) Use the APV method to calculate the company value after the recapitalization plan is announced.What is the value of equity after the announcement? What is the price per share? 3) Use the flow to equity method to calculate the value of the company's equity after the recapitalization. 4) Assume that Poly's target debt-to-equity ratio is 1.5. On anticipation that the demand for travelling will pick up starting from the fourth quarter of this year, it is considering setting up overseas branches in Canada and Australia. This project will cost $40 million and generate a year-end-after-tax cost savings of S6 million in perpetuity. The project's risk is similar to that of the firm's existing operations. What is the NPV for the project? Should the company accept the project or reject it? 5) Is the following statement true or false? When the project's level of debt is known over the life of the project, the WACC method should be used to value a project.
Cost of Capital
Shareholders and investors who invest into the capital of the firm desire to have a suitable return on their investment funding. The cost of capital reflects what shareholders expect. It is a discount rate for converting expected cash flow into present cash flow.
Capital Structure
Capital structure is the combination of debt and equity employed by an organization in order to take care of its operations. It is an important concept in corporate finance and is expressed in the form of a debt-equity ratio.
Weighted Average Cost of Capital
The Weighted Average Cost of Capital is a tool used for calculating the cost of capital for a firm wherein proportional weightage is assigned to each category of capital. It can also be defined as the average amount that a firm needs to pay its stakeholders and for its security to finance the assets. The most commonly used sources of capital include common stocks, bonds, long-term debts, etc. The increase in weighted average cost of capital is an indicator of a decrease in the valuation of a firm and an increase in its risk.
1s all-equity firm with its expected annual before-tax earnings of $20 million in perpetuity. The current required return on the firm's equity is 16 percent. The firm distributes all of its earnings as dividends at the end of each year. Currently, the company has 1 million shares outstanding and is subject to a corporate tax rate of 35 percent. To help improve its stock price performance during a time of poor economic conditions due to the Covid-19 crisis, the firm is considering a recapitalization under which it will issue S30 million of perpetual 9 percent debt and use the proceeds to buy back shares.
1) Calculate the value of the company before the recapitalization plan is announced. What is the value of equity before the announcement? What is the price per share?
2) Use the APV method to calculate the company value after the recapitalization plan is announced.What is the value of equity after the announcement? What is the price per share?
3) Use the flow to equity method to calculate the value of the company's equity after the recapitalization.
4) Assume that Poly's target debt-to-equity ratio is 1.5. On anticipation that the demand for travelling will pick up starting from the fourth quarter of this year, it is considering setting up overseas branches in Canada and Australia. This project will cost $40 million and generate a year-end-after-tax cost savings of S6 million in perpetuity. The project's risk is similar to that of the firm's existing operations. What is the
5) Is the following statement true or false? When the project's level of debt is known over the life of the project, the WACC method should be used to value a project.
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