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Principles Of Managerial Finance 13th Edition Lawrence J. Gitman, Chad J. Zutter - Solutions

Longchamps Electric is faced with a capital budget of $150,000 for the coming year. It is considering six investment projects and has a cost of capital of 7%. The six projects are listed in the following table, along with their initial investments and their IRRs. Using the data given, prepare an
Caradine Corp., a media services firm with net earnings of $3,200,000 in the last year, is considering the following projects.The media services business is cyclical and highly competitive. The board of directors has asked you, as chief financial officer, to do the following:a. Evaluate the risk of
Etsitty Arts, Inc., a leading producer of fine cast silver jewelry, is considering the purchase of new casting equipment that will allow it to expand the product line into award plaques. The proposed initial investment is $35,000. The company expects that the equipment will produce steady income
Pueblo Enterprises is considering investing in either of two mutually exclusive projects, X and Y. Project X requires an initial investment of $30,000; project Y requires $40,000. Each project€™s cash inflows are 5-year annuities: Project X€™s inflows are $10,000 per year;
Murdock Paints is in the process of evaluating two mutually exclusive additions to its processing capacity. The firm€™s financial analysts have developed pessimistic, most likely, and optimistic estimates of the annual cash inflows associated with each project. These estimates are shown
James Secretarial Services is considering the purchase of one of two new personal computers, P and Q. The company expects both to provide benefits over a 10-year period, and each has a required investment of $3,000. The firm uses a 10% cost of capital. Management has constructed the following table
You are interested in an investment project that costs $7,500 initially. The investment has a 5-year horizon and promises future end-of- year cash inflows of $2,000, $2,000, $2,000, $1,500, and $1,500, respectively. Your current opportunity cost is 6.5% per year. However, the Fed has stated that
Ogden Corporation has compiled the following information on a capital expenditure proposal:(1) The projected cash inflows are normally distributed with a mean of $36,000 and a standard deviation of $9,000.(2) The projected cash outflows are normally distributed with a mean of $30,000 and a standard
Country Wallpapers is considering investing in one of three mutually exclusive projects, E, F, and G. The firm's cost of capital, r, is 15%, and the risk-free rate, RF, is 10%. The firm has gathered the basic cash flow and risk index data for each project, as shown in the following table.a. Find
After a careful evaluation of investment alternatives and opportunities, Masters School Supplies has developed a CAPM-type relationship linking a risk index to the required return (RADR), as shown in the following table.Risk index Required return (RADR)0.0 ........ 7.0% (risk-free rate, RF)0.2
Lara Fredericks is interested in two mutually exclusive investments. Both investments cover the same time horizon of 6 years. The cost of the first investment is $10,000, and Lara expects equal and consecutive year-end payments of $3,000. The second investment promises equal and consecutive
Centennial Catering, Inc., is considering two mutually exclusive investments. The company wishes to use a CAPM-type risk adjusted discount rate (RADR) in its analysis. Centennial€™s managers believe that the appropriate market rate of return is 12%, and they observe that the current
Moses Manufacturing is attempting to select the best of three mutually exclusive projects, X, Y, and Z. Although all the projects have 5-year lives, they possess differing degrees of risk. Project X is in class V, the highest-risk class; project Y is in class II, the below-average-risk class; and
Evans Industries wishes to select the best of three possible machines, each of which is expected to satisfy the firm€™s ongoing need for additional aluminum-extrusion capacity. The three machines€”A, B, and C€”are equally risky. The firm plans to use a 12% cost of
Portland Products is considering the purchase of one of three mutually exclusive projects for increasing production efficiency. The firm plans to use a 14% cost of capital to evaluate these equal-risk projects. The initial investment and annual cash inflows over the life of each project are shown
JBL Co. has designed a new conveyor system. Management must choose among three alternative courses of action:(1) The firm can sell the design outright to another corporation with payment over 2 years.(2) It can license the design to another manufacturer for a period of 5 years, its likely product
Richard and Linda Butler decide that it is time to purchase a high-definition (HD) television because the technology has improved and prices have fallen over the past 3 years. From their research, they narrow their choices to two sets, the Samsung 42-inch LCD with 1080p capability and the Sony
Jenny Rene, the CFO of Asor Products, Inc., has just completed an evaluation of a proposed capital expenditure for equipment that would expand the firm’s manufacturing capacity. Using the traditional NPV methodology, she found the project unacceptable becauseNPVtraditional = –$1,700 <
Valley Corporation is attempting to select the best of a group of independent projects competing for the firm€™s fixed capital budget of $4.5 million. The firm recognizes that any unused portion of this budget will earn less than its 15% cost of capital, thereby resulting in a present
A firm with a 13% cost of capital must select the optimal group of projects from those shown in the following table, given its capital budget of $1 million.a. Calculate the present value of cash inflows associated with each project.b. Select the optimal group of projects, keeping in mind that
The Environmental Protection Agency sometimes imposes penalties on firms that pollute the environment. But did you know that there is a legal market for pollution? A mechanism that has been developed to limit excessive air pollution is to use carbon credits. Carbon credits are a tradable permit
Lasting Impressions (LI) Company is a medium-sized commercial printer of promotional advertising brochures, booklets, and other direct-mail pieces. The firm's major clients are ad agencies based in New York and Chicago. The typical job is characterized by high quality and production runs of more
What is meant by the term leverage? How are operating leverage, financial leverage, and total leverage related to the income statement?
What is the operating breakeven point? How do changes in fixed operating costs, the sale price per unit, and the variable operating cost per unit affect it?
What is operating leverage? What causes it? How is the degree of operating leverage (DOL) measured?
What is financial leverage? What causes it? How is the degree of financial leverage (DFL) measured?
What is the general relationship among operating leverage, financial leverage, and the total leverage of the firm? Do these types of leverage complement one another? Why or why not?
What is a firm’s capital structure? What ratios assess the degree of financial leverage in a firm’s capital structure?
In what ways are the capital structures of U.S. and non–U.S. firms different? How are they similar?
What is the major benefit of debt financing? How does it affect the firm’s cost of debt?
What are business risk and financial risk? How does each of them influence the firm’s capital structure decisions?
Briefly describe the agency problem that exists between owners and lenders. How do lenders cause firms to incur agency costs to resolve this problem?
How does asymmetric information affect the firm’s capital structure decisions? How do the firm’s financing actions give investors signals that reflect management’s view of stock value?
How do the cost of debt, the cost of equity, and the weighted average cost of capital (WACC) behave as the firm’s financial leverage increases from zero? Where is the optimal capital structure? What is its relationship to the firm’s value at that point?
Explain the EBIT–EPS approach to capital structure. Include in your explanation a graph indicating the financial breakeven point; label the axes. Is this approach consistent with maximization of the owners’ wealth?
Why do maximizing EPS and maximizing value not necessarily lead to the same conclusion about the optimal capital structure?
What important factors in addition to quantitative factors should a firm consider when it is making a capital structure decision?
Canvas Reproductions has fixed operating costs of $12,500 and variable operating costs of $10 per unit and sells its paintings for $25 each. At what level of unit sales will the company break even in terms of EBIT?
The Great Fish Taco Corporation currently has fixed operating costs of $15,000, sells its pre made tacos for $6 per box, and incurs variable operating costs of $2.50 per box. If the firm has a potential investment that would simultaneously raise its fixed costs to $16,500 and allow it to charge a
Chico’s has sales of 15,000 units at a price of $20 per unit. The firm incurs fixed operating costs of $30,000 and variable operating costs of $12 per unit. What is Chico’s degree of operating leverage (DOL) at a base level of sales of 15,000 units?
Parker Investments has EBIT of $20,000, interest expense of $3,000, and preferred dividends of $4,000. If it pays taxes at a rate of 38%, what is Parker’s degree of financial leverage (DFL) at a base level of EBIT of $20,000?
Cobalt Industries had sales of 150,000 units at a price of $10 per unit. It faced fixed operating costs of $250,000 and variable operating costs of $5 per unit. The company is subject to a tax rate of 38% and has a weighted average cost of capital of 8.5%. Calculate Cobalt’s net operating
Kate Rowland wishes to estimate the number of flower arrangements she must sell at $24.95 to break even. She has estimated fixed operating costs of $12,350 per year and variable operating costs of $15.45 per arrangement. How many flower arrangements must Kate sell to break even on operating costs?
Given the price and cost data shown in the accompanying table for each of the three firms, F, G, and H, answers the questions that follow.a. What is the operating breakeven point in units for each firm?b. How would you rank these firms in terms of their risk?
Fine Leather Enterprises sells its single product for $129.00 per unit. The firm’s fixed operating costs are $473,000 annually, and its variable operating costs are $86.00 per unit.a. Find the firm’s operating breakeven point in units.b. Label the x axis “Sales (units)” and the y axis
Barry Carter is considering opening a music store. He wants to estimate the number of CDs he must sell to break even. The CDs will be sold for $13.98 each, variable operating costs are $10.48 per CD, and annual fixed operating costs are $73,500.a. Find the operating breakeven point in number of
Paul Scott has a 2008 Cadillac that he wants to update with a geo-tracker device so he will have access to road maps and directions. After-market equipment can be fitted for a flat fee of $500, and the service provider requires monthly charges of $20. In his line of work as a traveling salesman, he
JWG Company publishes Creative Crosswords. Last year the book of puzzles sold for $10 with variable operating cost per book of $8 and fixed operating costs of $40,000. How many books must JWG sell this year to achieve the breakeven point for the stated operating costs, given the following different
Molly Jasper and her sister, Caitlin Peters, got into the novelties business almost by accident. Molly, a talented sculptor, often made little figurines as gifts for friends. Occasionally, she and Caitlin would set up a booth at a crafts fair and sell a few of the figurines along with jewelry that
Stewart Industries sells its finished product for $9 per unit. Its fixed operating costs are $20,000, and the variable operating cost per unit is $5.a. Calculate the firm’s earnings before interest and taxes (EBIT) for sales of 10,000 units.b. Calculate the firm’s EBIT for sales of 8,000 and
Grey Products has fixed operating costs of $380,000, variable operating costs of $16 per unit, and a selling price of $63.50 per unit.a. Calculate the operating breakeven point in units.b. Calculate the firm’s EBIT at 9,000, 10,000, and 11,000 units, respectively.c. With 10,000 units as a base,
Levin Corporation has fixed operating costs of $72,000, variable operating costs of $6.75 per unit, and a selling price of $9.75 per unit.a. Calculate the operating breakeven point in units.b. Compute the degree of operating leverage (DOL) using the following unit sales levels as a base: 25,000,
Southland Industries has $60,000 of 16% (annual interest) bonds outstanding, 1,500 shares of preferred stock paying an annual dividend of $5 per share, and 4,000 shares of common stock outstanding. Assuming that the firm has a 40% tax rate, compute earnings per share (EPS) for the following levels
Northwestern Savings and Loan has a current capital structure consisting of $250,000 of 16% (annual interest) debt and 2,000 shares of common stock. The firm pays taxes at the rate of 40%.a. Using EBIT values of $80,000 and $120,000, determine the associated earnings per share (EPS).b. Using
Max Small has outstanding school loans that require a monthly payment of $1,000. He needs to purchase a new car for work and estimates that this will add $350 per month to his existing monthly obligations. Max will have $3,000 available after meeting all of his monthly living (operating) expenses.
Wells and Associates has EBIT of $67,500. Interest costs are $22,500, and the firm has 15,000 shares of common stock outstanding. Assume a 40% tax rate.a. Use the degree of financial leverage (DFL) formula to calculate the DFL for the firm.b. Using a set of EBIT–EPS axes, plot Wells and
Play-More Toys produces inflatable beach balls, selling 400,000 balls per year. Each ball produced has a variable operating cost of $0.84 and sells for $1.00. Fixed operating costs are $28,000. The firm has annual interest charges of $6,000, preferred dividends of $2,000, and a 40% tax rate.a.
Firm R has sales of 100,000 units at $2.00 per unit, variable operating costs of $1.70 per unit, and fixed operating costs of $6,000. Interest is $10,000 per year. Firm W has sales of 100,000 units at $2.50 per unit, variable operating costs of $1.00 per unit, and fixed operating costs of $62,500.
Carolina Fastener, Inc., makes a patented marine bulkhead latch that wholesales for $6.00. Each latch has variable operating costs of $3.50. Fixed operating costs are $50,000 per year. The firm pays $13,000 interest and preferred dividends of $7,000 per year. At this point, the firm is selling
Kirsten Neal is interested in purchasing a new house given that mortgage rates are at a historical low. Her bank has specific rules regarding an applicant’s ability to meet the contractual payments associated with the requested debt. Kirsten must submit personal financial data for her income,
Charter Enterprises currently has $1 million in total assets and is totally equity financed. It is contemplating a change in its capital structure. Compute the amount of debt and equity that would be outstanding if the firm were to shift to each of the following debt ratios: 10%, 20%, 30%, 40%,
Tower Interiors has made the forecast of sales shown in the following table. Also given is the probability of each level of sales.Sales Probability$200,000 ........ 0.20300,000 ......... 0.60400,000 ........ 0.20The firm has fixed operating costs of $75,000
Williams Glassware has estimated, at various debt ratios, the expected earnings per share and the standard deviation of the earnings per share as shown in the following table.a. Estimate the optimal debt ratio on the basis of the relationship between earnings per share and the debt ratio. You will
Data-Check is considering two capital structures. The key information is shown in the following table. Assume a 40% tax rate.a. Calculate two EBIT-EPS coordinates for each of the structures by selecting any two EBIT values and finding their associated EPS values.b. Plot the two capital structures
Litho-Print is considering two possible capital structures, A and B, shown in the following table. Assume a 40% tax rate.a. Calculate two EBIT-EPS coordinates for each of the structures by selecting any two EBIT values and finding their associated EPS values.b. Graph the two capital structures on
Medallion Cooling Systems, Inc., has total assets of $10,000,000, EBIT of $2,000,000, and preferred dividends of $200,000 and is taxed at a rate of 40%. In an effort to determine the optimal capital structure, the firm has assembled data on the cost of debt, the number of shares of common stock for
Nelson Corporation has made the following forecast of sales, with the associated probabilities of occurrence noted.Sales Probability$200,000 ...... 0.20300,000 ........ 0.60400,000 ........ 0.20The company has fixed operating costs of $100,000 per year, and
The board of directors of Morales Publishing, Inc., has commissioned a capital structure study. The company has total assets of $40,000,000. It has earnings before interest and taxes of $8,000,000 and is taxed at a rate of 40%.a. Create a spreadsheet like the one in Table 13.10 showing values of
Country Textiles, which has fixed operating costs of $300,000 and variable operating costs equal to 40% of sales, has made the following three sales estimates, with their probabilities noted.Sales Probability$ 600,000 .......... 0.30900,000
What are the two ways that firms can distribute cash to shareholders?
Why do rapidly growing firms generally pay no dividends?
The dividend payout ratio equals dividends paid divided by earnings. How would you expect this ratio to behave during a recession? What about during an economic boom?
Who are holders of record? When does a stock sell ex dividend?
What effect did the Jobs and Growth Tax Relief Reconciliation Act of 2003 have on the taxation of corporate dividends? On corporate dividend payouts?
What benefit is available to participants in a dividend reinvestment plan? How might the firm benefit?
Does following the residual theory of dividends lead to a stable dividend? Is this approach consistent with dividend relevance?
Contrast the basic arguments about dividend policy advanced by Miller and Modigliani (M and M) and by Gordon and Lintner.
What five factors do firms consider in establishing dividend policy? Briefly describe each of them.
Describe a constant-payout-ratio dividend policy, a regular dividend policy, and a low-regular-and-extra dividend policy. What are the effects of these policies?
Why do firms issue stock dividends? Comment on the following statement: “I have a stock that promises to pay a 20 percent stock dividend every year, and therefore it guarantees that I will break even in 5 years.”
Compare a stock split with a stock dividend.
Stephanie’s Cafes, Inc., has declared a dividend of $1.30 per share for shareholders of record on Tuesday, May 2. The firm has 200,000 shares outstanding and will pay the dividend on May 24. How much cash will be needed to pay the dividend? When will the stock begin selling ex dividend?
Chancellor Industries has retained earnings available of $1.2 million. The firm plans to make two investments that require financing of $950,000 and $1.75 million, respectively. Chancellor uses a target capital structure with 60% debt and 40% equity. Apply the residual theory to determine what
Ashkenazi Companies has the following stockholders’ equity account:Common stock (350,000 shares at $3 par) .....$1,050,000Paid-in capital in excess of par ..........2,500,000Retained earnings................750,000Total stockholders’ equity..........$4,300,000Assuming that state laws define
The board of Kopi Industries is considering a new dividend policy that would set dividends at 60% of earnings. The recent past has witnessed earnings per share (EPS) and dividends paid per share as follows:Based on Kopi€™s historical dividend payout ratio, discuss whether a constant
The current stockholders’ equity account for Hilo Farms is as follows:Common stock (50,000 shares at $3 par) ... $150,000Paid-in capital in excess of par .................... 250,000Retained earnings ......................................... 450,000Total stockholders’
At the quarterly dividend meeting, Wood Shoes declared a cash dividend of $1.10 per share for holders of record on Monday, July 10. The firm has 300,000 shares of common stock outstanding and has set a payment date of July 31. Prior to the dividend declaration, the firm€™s key accounts
Kathy Snow wishes to purchase shares of Countdown Computing, Inc. The company’s board of directors has declared a cash dividend of $0.80 to be paid to holders of record on Wednesday, May 12.a. What is the last day that Kathy can purchase the stock (trade date) and still receive the dividend?b.
As president of Young’s of California, a large clothing chain, you have just received a letter from a major stockholder. The stockholder asks about the company’s dividend policy. In fact, the stockholder has asked you to estimate the amount of the dividend that you are likely to pay next year.
The Howe Company’s stockholders’ equity account follows:Common stock (400,000 shares at $4 par) ..$1,600,000Paid-in capital in excess of par .......1,000,000Retained earnings ............1,900,000Total stockholders’ equity .........$4,500,000The earnings available for common stockholders from
A firm has $800,000 in paid-in capital, retained earnings of $40,000 (including the current year’s earnings), and 25,000 shares of common stock outstanding. In the current year, it has $29,000 of earnings available for the common stockholders.a. What is the most the firm can pay in cash dividends
Bennett Farm Equipment Sales, Inc., is in a highly cyclic business. Although the firm has a target payout ratio of 25%, its board realizes that strict adherence to that ratio would result in a fluctuating dividend and create uncertainty for the firm€™s stockholders. Therefore, the firm
Over the last 10 years, a firm has had the earnings per share shown in the following table.a. If the firm€™s dividend policy were based on a constant payout ratio of 40% for all years with positive earnings and 0% otherwise, what would be the annual dividend for each year?b. If the firm
Given the earnings per share over the period 2005€“2012 shown in the following table, determine the annual dividend per share under each of the policies set forth in parts a through d.a. Pay out 50% of earnings in all years with positive earnings.b. Pay $0.50 per share and increase to
Columbia Paper has the following stockholders’ equity account. The firm’s common stock has a current market price of $30 per share.Preferred stock .............$100,000Common stock (10,000 shares at $2 par) ...20,000Paid-in capital in excess of par ........280,000Retained earnings
Milwaukee Tool has the following stockholders’ equity account. The firm’s common stock currently sells for $4 per share.Preferred stock ..............$ 100,000Common stock (400,000 shares at $1 par) .....400,000Paid-in capital in excess of par .......200,000Retained earnings
Sarah Warren currently holds 400 shares of Nutri-Foods. The firm has 40,000 shares outstanding. The firm most recently had earnings available for common stockholders of $80,000, and its stock has been selling for $22 per share. The firm intends to retain its earnings and pay a 10% stock dividend.a.
Security Data Company has outstanding 50,000 shares of common stock currently selling at $40 per share. The firm most recently had earnings available for common stockholders of $120,000, but it has decided to retain these funds and is considering either a 5% or a 10% stock dividend in lieu of a
Growth Industries’ current stockholders’ equity account is as follows:Preferred stock ..............$ 400,000Common stock (600,000 shares at $3 par) ..1,800,000Paid-in capital in excess of par .......200,000Retained earnings ............800,000Total stockholders’ equity .........$3,200,000a.
Nathan Detroit owns 400 shares of the food company General Mills, Inc., which he purchased during the recession in January 2009 for $35 per share. General Mills is regarded as a relatively safe company because it provides a basic product that consumers need in good and bad economic times. Nathan

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