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Questions and Answers of
Corporate Finance
Buner Corp.’s outstanding bond has the following characteristics:Years to maturity ………………………… 6.0Coupon rate of interest …………………..
Rick bought a bond when it was issued by Macroflex Corporation 14 years ago. The bond, which has a $1,000 face value and a coupon rate equal to 10 percent, matures in six years. Interest is paid
Suppose that five years ago Cisco Systems sold a 15-year bond issue that had a $1,000 par value and a 7 percent coupon rate. Interest is paid semiannually.a. If the going interest rate has risen to
Jones Brothers Clothing just issued preferred stock with a face value equal to $80 that pays a 10 percent annual dividend. If the stock currently yields 8 percent, what is its market value?
Advanced Corporation’s growth has slowed to a constant rate during the past few years. As a result, the company expects its common stock dividend to grow at a constant 4 percent for the remainder
Ms. Manners Catering (MMC) has paid a constant $1.50 per share dividend to its common stockholders for the past 25 years. Beginning with the next dividend, MMC expects to increase the dividend at a
The common stock of Union Jack Flags is currently selling for $28 per share. The company’s stock has been growing at a constant annual rate of 4 percent, and this growth is expected to continue for
It is now January 1, and you are considering purchasing an outstanding Puckett Corporation bond that was issued two years ago. The Puckett bond has a 9.5 percent annual coupon and a 30-year original
Robert bought a new issue of a 10-year bond with a coupon rate equal to 8 percent. If Robert sells the bond at the end of the year when its market price is $925, what return would he earn? What
What will be the rate of return on a perpetual bond with a $1,000 par value, an 8 percent coupon rate, and a current market price of?(a) $600,(b) $800,(c) $1,000,(d) $1,500?Assume that interest is
Nancy Cotton bought NuTalk for $15 per share. One year later, Nancy sold the stock for $21 per share, just after she received a $0.90 cash dividend from the company. What total return did Nancy earn?
Ralph Rafferty purchased Gold Depot at the beginning of January for $25 per share. Ralph received a $1.25 dividend payment from the company at the end of December. At that time, the stock was selling
Using the information provided in 10-33, compute the value of the bond on January 2, 2017, assuming interest rates do not change. What return would investors earn in 2016? What would be the capital
The stock of Gerlunice Company has a rate of return equal to 15.5 percent.a. If the most recently paid dividend, D0, was $2.25, and if g remains constant at 5 percent, at what price should
Suppose Ford Motor Company sold an issue of bonds with a 10-year maturity, a $1,000 par value, a 10 percent coupon rate, and semiannual interest payments.a. Two years after the bonds were issued, the
Ewald Company’s current stock price is $36, and its last dividend was $2.40. In view of Ewald’s strong financial position and its consequent low risk, its required rate of return is only 12
The Desreumaux Company has two bond issues outstanding. Both bonds pay $100 annual interest plus $1,000 at maturity. Bond L has a maturity of 15 years and Bond S has a maturity of one year.a. What
Your broker offers to sell you some shares of Wingler & Company common stock, which paid a dividend of $2 yesterday. You expect the dividend to grow at a rate of 5 percent per year into perpetuity.
Assume that the average firm in your company’s industry is expected to grow at a constant rate of 6 percent, and its dividend yield is 7 percent. Your company is considered as risky as the average
Microtech Corporation is expanding rapidly. Because it needs to retain all of its earnings, it does not currently pay any dividends. Investors expect Microtech to begin paying dividends eventually,
Bayboro Sails is expected to pay dividends of $2.50, $3.00, and $4.00 in the next three years—that is, D1 = $2.50, D2 = $3.00, and D3 = $4.00, respectively. After three years, the dividend is
Snyder Computer Chips, Inc., is experiencing a period of rapid growth. Earnings and dividends are expected to grow at a rate of 15 percent during the next two years, at 13 percent in the third year,
The Severn Company’s bonds have four years remaining to maturity. Interest is paid annually, the bonds have a $1,000 par value, and the coupon interest rate is 9 percent.a. Compute the yield to
As investment manager of Pasco Electric Company’s pension plan (which is exempt from income taxes), you must choose between IBM bonds and AT&T preferred stock. The bonds have a $1,000 par value,
Tapley Corporation’s 14 percent coupon rate, semiannual payment, $1,000 par value bonds mature in 30 years. The bonds sell at a price of $1,353.54, and their yield curve is flat. Assuming that
You buy a share of Damanpour Corporation stock for $21.40. You expect it to pay dividends of $1.07, $1.1449, and $1.2250 in Years 1, 2, and 3, respectively. You also expect to sell the stock at a
On January 2, 2015, a Sunny Communications $1,000 face value, six-year bond sold for $889. Investors who bought this particular bond will be paid interest equal to $40 every six months. Market
You are considering buying the stocks of two companies that operate in the same industry. Both firms have similar characteristics except for their dividend payout policies, and both are expected to
The bonds of the Lange Corporation are perpetuities with a 10 percent coupon. Bonds of this type currently yield 8 percent, and their par value is $1,000.a. What is the price of the Lange bonds?b.
Suppose that on January 2, 2014, the yield on AAA-rated corporate bonds were 5 percent; suppose also that one year later, the yield on these same bonds had climbed to about 6 percent because the
Investors require a 15 percent rate of return on Goulet Company’s stock (rs = 15%).a. What will be Goulet’s stock value if the previous dividend was D0 = $2 and if investors expect dividends to
Swink Electric, Inc., has just developed a solar panel capable of generating 200 percent more electricity than any solar panel currently on the market. As a result, Swink is expected to experience a
Tanner Technologies Corporation (TTC) has been growing at a rate of 20 percent per year in recent years. This same growth rate is expected to last for another two years.a. If D0 = $1.60, rs = 10%,
Robert Campbell and Carol Morris are senior vice presidents of the Mutual of Chicago Insurance Company. They are codirectors of the company’s pension fund management division, with Campbell having
A major new client has requested that Mutual of Chicago present an investment seminar to illustrate the stock valuation process. As a result, Campbell and Morris have asked you to analyze the Bon
Use the model in File C10 to solve this problem.a. Refer to Problem 10-40. Rework part (d) using the computerized model to determine what Swink’s expected dividends and stock price would be under
Give some events that affect the price of a stock that would result from unsystematic risk. What events would result from systematic risk? Explain.
Explain why systematic risk is the relevant risk of an investment and why investors should be rewarded only for this type of risk.
A life insurance policy is a financial asset. The premiums paid represent the investment’s cost.a. How would you calculate the expected return on a life insurance policy?b. Suppose the owner of a
Do you think it is possible to construct a portfolio of stocks that has an expected return that equals the risk-free rate of return?
Suppose the beta coefficient of a stock doubles from β1 = 1 to β2 = 2. Logic says that the required rate of return on the stock should also double. Is this logic correct? Explain.
Currently, the risk-free return is 3 percent and the expected market rate of return is 10 percent. What is the expected return of the following three-stock portfolio?Amount Invested Beta$400,000
Stocks X and Y have the following probability distributions of expected future returns:a. Calculate the expected rate of return for Stock Y, rY (rX = 12%).b. Calculate the standard deviation of
Stocks R and S have the following probability distributions of returns:a. Calculate the expected return for each stock.b. Calculate the expected return of a portfolio consisting of 50 percent of each
Terry recently invested equal amounts in five stocks to form an investment portfolio, which has a beta equal to 1.2—that is, βP = 1.2. Terry is considering selling the riskiest stock in the
Suppose that you hold a diversified portfolio consisting of 20 different stocks, with $7,500 invested in each of the stocks. The portfolio beta is equal to 1.12. You have decided to sell one of the
Suppose rRF = 9%, rM = 14%, and βX = 1.3.a. What is rX, the required rate of return on Stock X?b. Now suppose rRF (1) Increases to 10 percent (2) Decreases to 8 percent. The slope of the
Suppose you won the Florida lottery and were offered a choice of $500,000 in cash or a gamble in which you would get $1 million if a head were flipped but $0 if a tail came up.a. What is the expected
The McAlhany Investment Fund has total capital of $500 million invested in five stocks:The current risk-free rate is 8 percent. Market returns have the following estimated probability distribution
Stock A and Stock B have the following historical returns:a. Calculate the average rate of return for each stock during the period 2011–2015.Assume that someone held a portfolio consisting of
Stock A and Stock B have the following historical returns:a. Calculate the average rate of return for each stock during the period 2011–2015.b. Assume that someone held a portfolio consisting of 50
Assume that you recently graduated with a major in finance and just landed a job in the trust department of a large regional bank. Your first assignment is to invest $100,000 from an estate for which
Using the model in File C11, rework Problem 11-27, assuming that a third stock, Stock C, is available for inclusion in the portfolio. Stock C has the following historical returns:Year
The financial manager of a large national firm was overheard making the following statement: “We try to use as much retained earnings as possible for investment purposes because there is no
Suppose a firm estimates its MCC and IOS schedules for the coming year and finds that they intersect at the point 10 percent, and $10 million. What cost of capital should be used to evaluate
Clear Glass Company’s investment banker has determined that the following rate schedule would apply if the firm raises funds by issuing new debt (bonds):Amount of New Debt
Explain why, for a particular firm, the cost of retained earnings, rs, is always less than the cost of new equity, re.
In what sense is a firm’s WACC also the rate of return that should be earned on its investments?
Why is there a cost to the firm for retaining earnings to fund investments?
Neotech Corporation’s 14 percent coupon rate, semiannual payment, $1,000 par value, 30-year bonds currently sell at a price of $1,353.54. If its marginal tax rate is 40 percent, what is Neotech’s
A corporation has an outstanding bond with the following characteristics:Coupon interest rate ........... 6.0%Interest payments ............ semiannuallyFace value .................
Analysts of the ICM Corporation have indicated that the company is expected to grow at a 5 percent rate for as long as it is in business. Currently, ICM’s stock is selling for $70 per share. The
The Choi Company’s next expected dividend, D1, is $3.18; its growth rate is 6 percent; and its stock currently sells for $36. New stock can be sold to net the firm $32.40 per share.a. What is
Following is information about the common equity of Funtastic Furniture Company:Current selling price ............. $68.00Constant growth rate ............ 8.0%Most recently paid dividend, D0
A company’s 6 percent coupon rate, semiannual payment, $1,000 par value bond that matures in 30 years sells at a price of $515.16. The company’s marginal tax rate is 40 percent. What is the
You are given the following information about a firm:The firm expects to retain $160,000 in earnings this year to invest in investment projects. If the firms capital budget is expected to
The Gupta Companys cost of equity is 16 percent. Its before-tax cost of debt is 13 percent, and its marginal tax rate is 40 percent. The stock sells at book value. Using
The Shrieves Company’s most recent EPS was $6.50; EPS was $4.42 five years ago. The company pays out 40 percent of its earnings as dividends, and the stock sells for $36.a. Calculate the past
The Simmons Company expects earnings of $30 million next year. Its dividend payout ratio is 40 percent, and its proportion of debt (debt/assets ratio) is 55 percent. Simmons uses no preferred
Chicago Paints Corporation has a target capital structure of 40 percent debt and 60 percent common equity. The company expects to have $600 of after-tax income during the coming year, and it plans
Roberson Fashion’s capital structure consists of 30 percent debt and 70 percent common equity. Roberson is considering raising new capital to finance its expansion plans. The company’s
The CFO of Mega Munchies recently received a report that contains the following information:The WACC is 12 percent if the firm does not have to issue new common equity; if new common equity is
Sam’s Orthodontic Services (SOS) will retain for reinvestment $300,000 of the net income it expects to generate next year. Recently, the CFO determined that the firm’s after-tax cost of debt,
The Mason Corporation’s present capital structure, which is also its target capital structure, calls for 50 percent debt and 50 percent common equity. The firm has only one potential project, an
The management of Ferri Phosphate Industries (FPI) is planning next year’s capital budget. FPI projects its net income at $7,500, and its dividend payout ratio is 30 percent. The
Refer to Problem 12-19. Management now decides to incorporate project risk differentials into the analysis. The new policy is to add 2 percentage points to the cost of capital of those projects
Florida Electric Company (FEC) uses only debt and equity. It can borrow unlimited amounts at an interest rate of 10 percent as long as it finances at its target capital structure, which calls for 45
The earnings, dividends, and stock price of Talukdar Technologies Inc. are expected to grow at 7 percent per year in the future. Talukdar’s common stock sells for $23 per share, its last dividend
Rowell Products’ stock is currently selling for $60 a share. The firm is expected to earn $5.40 per share this year and to pay a year-end dividend of $3.60.a. If investors require a 9 percent
The total assets of the Dexter Company are $270 million, and the firm’s present capital structure, which follows, is considered to be optimal. Assume that there is no short-term debt.Long-term debt
The following table gives earnings per share figures for the Brueggeman Company during the preceding 10 years. The firm’s common stock, 7.8 million shares outstanding, is now (January 1, 2015)
Lancaster Engineering Inc. (LEI) has the following capital structure, which it considers to be optimal:Debt ............ 25%Preferred stock ........ 15Common equity ....... 60100%LEI’s
Ezzell Enterprises has the following capital structure, which it considers to be optimal under present and forecasted conditions:Debt (long-term only) ........ 45%Common equity .......... 55Total
Assume that you were recently hired as assistant to Jerry Lehman, financial VP of Coleman Technologies. Your first task is to estimate Coleman’s cost of capital. Lehman has provided you with the
Use the model in the File C12 to work this problem.a. Refer back to Problem. Now assume that the debt ratio is increased to 65 percent, causing all interest rates to rise by 1 percentage point, to 10
Cash flows rather than accounting profits are listed in Table 13-1. What is the basis for this emphasis on cash flows as opposed to net income?
After evaluating a capital budgeting project, Susan discovered that the project’s NPV > 0. What does this information tell us about the project’s IRR and DPB? Can anything be concluded about the
In what sense is a reinvestment rate assumption embodied in the NPV and IRR methods? What is the assumed reinvestment rate of each method?
Following is information for three mutually exclusive capital budgeting projects that the CFO of Universal Fire Systems (UFS) is currently evaluating:a. Which project(s) should be purchased
“Two companies examined the same capital budgeting project, which has an internal rate of return equal to 19 percent. One firm accepted the project, but the other firm rejected it. One of the
Suppose a firm estimates its required rate of return for the coming year to be 10 percent. What are reasonable required rates of return for evaluating average-risk projects, high-risk projects, and
Look at Table 13-4 and answer these questions:a. Why is the net salvage value shown in Section III reduced for taxes?b. How is the change in depreciation computed?c. What would happen if the new
Explain how net working capital is recovered at the end of a project’s life and why it is included in a capital budgeting analysis.
Generosity Golf Equipment is considering whether to build a new manufacturing plant in Jacksonville, Florida, in an effort to increase sales of its golf products in the Southeast. If it builds the
Explain the decision rules—that is, under what conditions a project is acceptable—for each of the following capital budgeting methods:a. Net present value (NPV)b. Internal rate of return
“If a firm has no mutually exclusive projects, only independent ones, and it also has both a constant required rate of return and projects with conventional cash flow patterns, then the NPV and IRR
Following is a table Alice used to construct an NPV profile for Project K:Rate of Return (r) NPV5% .......... $13,60910 .......... 5,72315 .......... 9420 .......... (4,038)25
Suppose Reading Engine Company, which has a high beta as well as a great deal of corporate risk, merged with Simplicity Patterns Inc. Simplicity’s sales rise during recessions, when people are more
A company has collected the following information about a new machine that it is evaluating for possible investment:Purchase price .................... $340,000Salvage value at the end of three years
A firm is evaluating the acceptability of an investment that costs $90,000 and is expected to generate annual cash flows equal to $20,000 for the next six years. If the firm’s required rate of
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