13th Edition

ISBN: 9781260465099

Author: BREALEY, Richard

Publisher: MCGRAW-HILL HIGHER EDUCATION

Concept explainers

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 c…

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 stakehold…

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Textbook Question

Chapter 4, Problem 28PS

Valuing a business Permian Partners (PP) produces from aging oil fields in west Texas. Production is 1.8 million barrels per year in 2018, but production is declining at 7% per year for the foreseeable future. Costs of production, transportation, and administration add up to $25 per barrel. The average oil price was $65 per barrel in 2018. PP has 7 million shares outstanding. The cost of capital is 9%. All of PP’s net income is distributed as dividends. For simplicity, assume that the company will stay in business forever and that costs per barrel are constant at $25. Also, ignore taxes.

a. What is the ending 2018 value of one PP share? Assume that oil prices are expected to fall to $60 per barrel in 2019, $55 per barrel in 2020, and $50 per barrel in 2021. After 2021, assume a long-term trend of oil-price increases at 5% per year.
b. What is PP’s EPS/P ratio, and why is it not equal to the 9% cost of capital?

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Chapter 4, Problem 27PS

Chapter 4, Problem 29PS

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Chapter 4 Solutions

Principles of Corporate Finance

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