Assume you have just been hired as a business manager of PizzaPalace, a regional pizza restaurant chain. The company’s EBIT was $120 million last year and is not expected to grow. PizzaPalace is in the 25% state-plus-federal tax bracket, the risk-free rate is 6 percent, and the market risk premium is 6 percent. The firm is currently financed with all equity, and it has 10 million shares outstanding.
When you took your
- a. Using the
free cash flow valuation model, show the only avenues by which capital structure can affect value.
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Chapter 15 Solutions
Financial Management: Theory & Practice
- Suppose you are the president of a large corporation located in Seattle, Washington. How do you think the stockholders will react if you decide to increase the proportion of the company’s assets that is financed with debt from 35 percent to 50 percent? In other words, what if the firm used much more debt to finance its assets?arrow_forwardYou have been asked by your employers to demonstrate your knowledge in business valuation process, by analyzing the value of Best Group Savings and Loans Company (BGSLC). The company paid a dividend of GH¢ 250,000 this year. The current return to shareholders of companies in the same industry as BGSLC is 12%, although it is expected that an additional risk premium of 2% will be applicable to BGSLC, being a smaller and unquoted company. Compute the expected valuation of BGSLC, if: The current level of dividend is expected to continue into the foreseeable future The dividend is expected to grow at a rate 4% par into foreseeable future The dividend is expected to grow at a 3% rate for three years and 2% afterwardsarrow_forwardAssume you have just been hired as business manager of EdiPizza, a pizza restaurant located adjacent to campus. The company’s EBIT was GH¢500,000 last year, and since the university’s enrollment is capped, EBIT is expected to remain constant (in real terms) over time. Since no expansion capital will be required, EdiPizza plans to pay out all earnings as dividends. The management group owns about 50% of the stock, and the stock is traded in the over-the counter-market. The firm is currently financed with all equity; it has 100,000 shares outstanding; and price of stock is GH¢25 per share. When you took your MBA corporate finance course, your instructor stated that most firms’ owners would be financially better off if the firms used some debt. When you suggested this to your new boss, he encouraged you to pursue the idea. As a first step, assume that you obtained from the firm’s investment banker the following estimated costs of debt for the firm at different capital structures: Percent…arrow_forward
- Assume you have just been hired as business manager of EdiPizza, a pizza restaurant located adjacent to campus. The company’s EBIT was GH¢500,000 last year, and since the university’s enrollment is capped, EBIT is expected to remain constant (in real terms) over time. Since no expansion capital will be required, EdiPizza plans to pay out all earnings as dividends. The management group owns about 50% of the stock, and the stock is traded in the over-the counter-market. The firm is currently financed with all equity; it has 100,000 shares outstanding; and price of stock is GH¢25 per share. When you took your MBA corporate finance course, your instructor stated that most firms’ owners would be financially better off if the firms used some debt. When you suggested this to your new boss, he encouraged you to pursue the idea. As a first step, assume that you obtained from the firm’s investment banker the following estimated costs of debt for the firm at different capital structures:…arrow_forwardYou are the financial planner for Johnson Controls. Assume last year's profits were $880,000. The board of directors decided to forgo dividends to stockholders and retire high-interest outstanding bonds that were issued 6 years ago at a face value of $1,490,000. You have been asked to invest the profits in a bank. The board must know how much money you will need from the profits earned to retire the bonds in 8 years. Bank A pays 6% compounded quarterly, and Bank B pays 7% compounded annually. (Use Table 1 and Table 2 provided.) Note: Do not round intermediate calculations. Round your answers to the nearest dollar amount. a-1. Which bank would you recommend? Bank A Bank B a-2. How much of the company's profit should be placed in the bank? Profit b. If you recommended that the remaining money not be distributed to stockholders but be placed in Bank B, how much would the remaining money be worth in 8 years? Future Valuearrow_forwardPlease assist with the formulas for the associated problem. Thanks so much!arrow_forward
- Assume you have just been hired as business manager of Sunbucks, a coffee shop located adjacent to campus. The firm is currently financed with 90% equity and 10% debt; it has 50,000 shares outstanding; and PO = $9.93 per share. The management group owns about 50 percent of the stock, and the stock is traded in the over-the-counter market. The company's EBIT was $100,000 last year, and since the university's enrollment is capped, EBIT is expected to remain constant (in real terms) over time. Since no expansion capital will be required, Sunbucks plans to pay out all earnings as dividends. You suggested to your new boss that the firm should engage in a capital restructure by issuing more debt and use the proceeds to repurchase stocks. Your boss encouraged you to pursue the idea. As a first step, assume that you obtained from the firm's investment banker the following estimated costs of debt for the firm at different capital structures: % Financed With Debt Rd 0% --- 10 9% 45 9.5% 60 14%…arrow_forward2. A venture capitalist wants to invest $1,000,000 in your company Chatt-Town Industries. You do not expect to make a profit until year four when your net income (profit) is expected to be $3,000,000. The common stock of Nash-Vegas Corporation, a "comparable" firm, currently trades in the over-the- counter market at $8 per share. Nash-Vegas's net income (profit) for the most recent year was $1,000,000 and the firm has 500,000 shares of common stock outstanding (for a market capitalization of $4,000,000). Apply the VC method to determine the value of the Chatt-Town Industries at the end of four years. A. What is the comparable firm's earnings per share (EPS)?arrow_forwardPlease help with the formulas that are used in this problem. Thanks!arrow_forward
- Assume that you have just been hired as business manager of Campus Deli(CD), which is located adjacent to the campus. Its Free Cash Flow(FCF) is $30,000. Because the university’s enrollment is capped, FCF is expected to be constant over time. Because no expansion capital is required, CD pays out all earnings as dividends. CD currently has no debt—it is an all-equity firm—and its 100,000 shares outstanding. The firm’s federal-plus-state tax rate is 40%.On the basis of statements made in your finance text, you believe that CD’s shareholders would be better off if some debt financing was used. When you suggested this to your new boss, she encouraged you to pursue the idea but to provide support for the suggestion.In today’s market, the risk-free rate is 6% and the market risk premium is 6%. CD’s unlevered beta is 1.0. CD currently has no debt, so its cost of equity (and WACC) is 12%. If the firm was recapitalized, debt would be issued and the borrowed funds would be used to repurchase…arrow_forwardAs a financial analyst at JPMorgan Chase, you are analyzing the impact of debt on the value of the firm. Suppose BAC Company has no debt in its capital structure. The company is valued at $300 million. Assume the corporate tax rate is 20%. a. What would be the value of tax shield if it issued $100 million in perpetual debt and repurchased the equity? (sample answer: 200.40) b. What would be the value of the firm if it issued $100 million in perpetual debt and repurchased the equity? ( sample answer: 200.40)arrow_forwardSuppose you have just become the president of J&J and the first decision you face is whether Co go ahead with a plan to renovate the company's Al systems. The plan will cost the company $60 million, and it is expected to save $15 million per year after taxes over the next five years. The firm sources of funds and corresponding required rates of return are as follow: $5 million common stock at 16%, $800,000 preferred stock at 12%, $6 million debt at 7%. All amounts are listed at market values and the firm's tax rate is 30%. You are the financial manager and supposed to calculate the NPV. What's the NPV? Do you recommend taking the project? ง = O NPV $5.167 Millions; I'll recommend the owners to take the project. O NPV=-$1.720 Millions; I'll tell the owners not to take the project. NPV = $4.562 Millions; I'll tell the owners not to take the project. O NPV=-$8.098 Millions; I'll tell the owners not to take the project.arrow_forward
- Intermediate Financial Management (MindTap Course...FinanceISBN:9781337395083Author:Eugene F. Brigham, Phillip R. DavesPublisher:Cengage Learning