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Financial Management Theory And Practice 12th Edition Eugene F. Brigham And Michael C. Ehrhardt - Solutions

The beta coefficient for Stock C is bC = 0.4, whereas that for Stock D is bD = _0.5. (Stock D’s beta is negative, indicating that its rate of return rises whenever returns on most other stocks fall. There are very few negative beta stocks, although collection agency stocks are sometimes cited as
Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $20 million. Kim expects that the hotel will produce positive cash flows of $3 million a year at the end of each of the next 20 years. The project’s cost of
The Karns Oil Company is deciding whether to drill for oil on a tract of land that the company owns. The company estimates that the project would cost $8 million today. Karns estimates that once drilled, the oil will generate positive net cash flows of $4 million a year at the end of each of the
Hart Lumber is considering the purchase of a paper company. Purchasing the company would require an initial investment of $300 million. Hart estimates that the paper company would provide net cash flows of $40 million at the end of each of the next 20 years. The cost of capital for the paper
Utah Enterprises is considering buying a vacant lot that sells for $1.2 million. If the property is purchased, the company’s plan is to spend another $5 million today (t =0) to build a hotel on the property. The after-tax cash flows from the hotel will depend critically on whether the state
Rework Problem 12-1 using the Black-Scholes model to estimate the value of the option. (Hint: Assume the variance of the project’s rate of return is 6.87 percent and the risk-free rate is 8 percent.)
Rework Problem 12-2 using the Black-Scholes model to estimate the value of the option: The risk-free rate is 6 percent. (Hint: Assume the variance of the project’s rate of return is 1.11 percent.)
Define each of the following terms:a. Real options; managerial options; strategic options; embedded optionb. Investment timing option; growth option; abandonment option; flexibility optionc. Decision trees
What factors should a company consider when it decides whether to invest in a project today or to wait until more information becomes available?
Financial ratio analysis is conducted by four groups of analysts: managers, equity investors, long-term creditors, and short-term creditors. What is the primary emphasis of each of these groups in evaluating ratios?
Over the past year, M. D. Ryngaert & Co. has realized an increase in its current ratio and a drop in its total assets turnover ratio. However, the company’s sales, quick ratio, and fixed assets turnover ratio have remained constant. What explains these changes?
Profit margins and turnover ratios vary from one industry to another. What differences would you expect to find between a grocery chain such as Safeway and a steel company? Think particularly about the turnover ratios, the profit margin, and the Du Pont equation.
How might(a) Seasonal factors and(b) Different growth rates distort a comparative ratio analysis? Give some examples. How might these problems be alleviated?
Why is it sometimes misleading to compare a company’s financial ratios with other firms that operate in the same industry?
Ace Industries has current assets equal to $3 million. The company’s current ratio is 1.5, and its quick ratio is 1.0. What is the firm’s level of current liabilities? What is the firm’s level of inventories?
Baker Brothers has a DSO of 40 days. The company’s average daily sales are $20,000. What is the level of its accounts receivable? Assume there are 365 days in a year.
Bartley Barstools has an equity multiplier of 2.4. The company’s assets are financed with some combination of long-term debt and common equity. What is the company’s debt ratio?
Doublewide Dealers has an ROA of 10 percent, a 2 percent profit margin, and a return on equity equal to 15 percent. What is the company’s total assets turnover? What is the firm’s equity multiplier?
Assume you are given the following relationships for the Brauer Corporation: Calculate Brauer's profit margin and debt ratio.
The Petry Company has $1,312,500 in current assets and $525,000 in current liabilities. Its initial inventory level is $375,000, and it will raise funds as additional notes payable and use them to increase inventory. How much can Petry’s short-term debt (notes payable) increase without pushing
The Kretovich Company had a quick ratio of 1.4, a current ratio of 3.0, an inventory turnover of 6 times, total current assets of $810,000, and cash and marketable securities of $120,000. What were Kretovich’s annual sales and it’s DSO? Assume a 365-day year.
The H. R. Pickett Corporation has $500,000 of debt outstanding, and it pays an interest rate of 10 percent annually: Pickett’s annual sales are $2 million, its average tax rate is 30 percent, and its net profit margin on sales is 5 percent. If the company does not maintain a TIE ratio of at least
Data for Barry Computer Company and its industry averages follow.a. Calculate the indicated ratios for Barry.b. Construct the extended Du Pont equation for both Barry and the industry.c. Outline Barry's strengths and weaknesses as revealed by your analysis.d. Suppose Barry had doubled its sales as
Complete the balance sheet and sales information in the table that follows for Hoffmeister Industries using the following financial data:Debt ratio: 50%Quick ratio: 0.80XTotal assets turnover: 1.5CDays sales outstanding: 36.5 days aGross profit margin on sales: (Sales _ Cost of goods sold)/Sales _
The Corrigan Corporation’s forecasted 2005 financial statements follow, along with some industry average ratios.a. Calculate Corrigan’s 2005 forecasted ratios, compare them with the industry average data, and comment briefly on Corrigan’s projected strengths and weaknesses.b. What do you
Define each of the following terms:a. Operating plan; financial plan; sales forecastb. Pro forma financial statement; percent of sales methodc. Spontaneously generated fundsd. Additional funds needed (AFN); AFN formula; capital intensity ratioe. Lumpy assets
Certain liability and net worth items generally increase spontaneously with increases in sales. Put a check (=) by those items that typically increase spontaneously:
The following equation can, under certain assumptions, be used to forecast financial requirements: Under what conditions does the equation give satisfactory predictions, and when should it not be used?
Suppose a firm makes the following policy changes. If the change means that external, non-spontaneous financial requirements (AFN) will increase, indicate this by a (=); indicate a decrease by a (=); and indicate indeterminate or no effect by a (0) think in terms of the immediate, short-run effect
AFN equation Carter Corporation's sales are expected to increase from $5 million in 2005 to $6 million in 2006, or by 20 percent. Its assets totaled $3 million at the end of 2005. Carter is at full capacity, so its assets must grow in proportion to projected sales. At the end of 2005, current
What would be the additional funds needed if the company’s year-end 2004 assets had been $4 million? Assume that all other numbers are the same. Why is this AFN different from the one you found in Problem 14-1? Is the company’s “capital intensity” the same or different?
Return to the assumption that the company had $3 million in assets at the end of 2004, but now assume that the company pays no dividends. Under these assumptions, what would be the additional funds needed for the coming year? Why is this AFN different from the one you found in Problem 14-1?
Pierce Furnishings generated $2.0 million in sales during 2004, and its year-end total assets were $1.5 million. Also, at year-end 2004, current liabilities were $500,000, consisting of $200,000 of notes payable, $200,000 of accounts payable, and $100,000 of accruals. Looking ahead to 2005, the
Upton Computers makes bulk purchases of small computers, stocks them in conveniently located warehouses, and ships them to its chain of retail stores. Upton's balance sheet as of December 31, 2004, is shown here (millions of dollars):Sales for 2004 were $350 million, while net income for the year
Stevens Textile's 2004 financial statements are shown below. Stevens Textile: Balance Sheet as of December 31, 2004 (Thousands of Dollars) Suppose 2005 sales are projected to increase by 15 percent over 2004 sales. Determine the additional funds needed. Assume that the company was operating at
Garlington Technologies Inc.'s 2004 financial statements are shown below. Garlington Technologies Inc.: Balance Sheet as of December 31, 2004 Suppose that in 2005 sales increase by 10 percent over 2004 sales and that 2005 dividends will increase to $112,000. Construct the pro forma financial
At year-end 2004, total assets for Bertin Inc. were $1.2 million and accounts payable were $375,000. Sales, which in 2004 were $2.5 million, are expected to increase by 25 percent in 2005. Total assets and accounts payable are proportional to sales and that relationship will be maintained. Bertin
The Booth Company's sales are forecasted to increase from $1,000 in 2004 to $2,000 in 2005. Here is the December 31, 2004, balance sheet: Booth's fixed assets were used to only 50 percent of capacity during 2004, but its current assets were at their proper levels. All assets except fixed assets
Define each of the following terms:a. Assets-in-place; growth options; non-operating assetsb. Net operating working capital; operating capital; NOPAT; free cash flowc. Value of operations; horizon value; corporate valuation modeld. Value-based management; value drivers; ROICe. Managerial
Explain how to use the corporate valuation model to find the price per share of common equity.
Explain how it is possible for sales growth to decrease the value of a profitable company.
What are some actions an entrenched management might take that would harm shareholders?
How is it possible for an employee stock option to be valuable even if the firm’s stock price fails to meet shareholders’ expectations?
Use the following income statements and balance sheets to calculate Garnet Inc.'s free cash flow for 2005.
EMC Corporation has never paid a dividend. Its current free cash flow is $400,000 and is expected to grow at a constant rate of 5 percent. The weighted average cost of capital is WACC _ 12%. Calculate EMC’s value of operations.
Brooks Enterprises has never paid a dividend. Free cash flow is projected to be $80,000 and $100,000 for the next 2 years, respectively, and after the second year it is expected to grow at a constant rate of 8 percent. The company’s weighted average cost of capital is WACC = 12%.a. What is
Dozier Corporation is a fast-growing supplier of office products. Analysts project the following free cash flows (FCFs) during the next 3 years, after which FCF is expected to grow at a constant 7 percent rate. Dozier's cost of capital is WACC = 13%a. What is Dozier's terminal, or horizon, value?
Current and projected free cash flows for Radell Global Operations are shown below. Growth is expected to be constant after 2006. The weighted average cost of capital is 11 percent. What is the horizon, or continuing, value?
A company has capital of $200,000,000. It has an expected ROIC of 9 percent, forecasted constant growth of 5 percent, and a WACC of 10 percent. What is its value of operations? What is its MVA?
You are given the following forecasted information for the year 2008: Sales = $300,000,000; Operating profitability (OP) = 6%; Capital requirements (CR) = 43%; Growth (g) = 5%; and the weighted average cost of capital (WACC) = 9.8%. If these values remain constant, what is the horizon value (that
The balance sheets of Hutter Amalgamated are shown below. If the 12/31/2004 value of operations is $756 million, what is the 12/31/2004 value of equity?
The balance sheets of Roop Industries are shown below. The 12/31/2004 value of operations is $651 million and there are 10 million shares of common equity. What is the price per share?
The financial statements of Lioi Steel Fabricators are shown below, with the actual results for 2004 and the projections for 2005. Free cash flow is expected to grow at a 6 percent rate after 2005. The weighted average cost of capital is 11 percent.a. If operating capital as of 12/31/2004 is
Define each of the following terms:a. Capital structure; business risk; financial riskb. Operating leverage; financial leverage, breakeven pointc. Reserve borrowing capacity
What term refers to the uncertainty inherent in projections of future ROIC?
Firms with relatively high non-financial fixed costs are said to have a high degree of what?
“One type of leverage affects both EBIT and EPS. The other type affects only EPS.” Explain this statement.
Why is the following statement true? “Other things being the same, firms with relatively stable sales are able to carry relatively high debt ratios.”
Why do public utility companies usually have capital structures that are different from those of retail firms?
Why EBIT is generally considered to be independent of financial leverage? Why might EBIT actually be influenced by financial leverage at high debt levels?
If a firm went from zero debt to successively higher levels of debt, why would you expect its stock price to first rise, then hit a peak, and then begin to decline?
Schweser Satellites Inc. produces satellite earth stations that sell for $100,000 each. The firm’s fixed costs, F, are $2 million; 50 earth stations are produced and sold each year; profits total $500,000; and the firm’s assets (all equity financed) are $5 million. The firm estimates that it
Here are the estimated ROE distributions for Firms A, B, and C:a. Calculate the expected value and standard deviation for Firm C’s ROE. ROEA = 10.0%, =σA = 5.5%; ROEB = 12.0%, = σB = 7.7%. b. Discuss the relative riskiness of the three firms’ returns. (Assume that these distributions are
The Rivoli Company has no debt outstanding, and its financial position is given by the following data:The firm is considering selling bonds and simultaneously repurchasing some of its stock. If it moves to capital structure with 30 percent debt based on market values, its cost of equity, rs, will
Pettit Printing Company has a total market value of $100 million, consisting of 1 million shares selling for $50 per share and $50 million of 10 percent perpetual bonds now selling at par. The company’s EBIT is $13.24 million, and its tax rate is 15 percent. Pettit can change its capital
Beckman Engineering and Associates (BEA) is considering a change in its capital structure. BEA currently has $20 million in debt carrying a rate of 8 percent, and its stock price is $40 per share with 2 million shares outstanding. BEA is a zero growth firm and pays out all of its earnings as
Elliott Athletics is trying to determine its optimal capital structure, which now consists of only debt and common equity. The firm does not currently use preferred stock in its capital structure, and it does not plan to do so in the future. To estimate how much its debt would cost at different
What is the difference between a stock dividend and a stock split? As a stockholder, would you prefer to see your company declares a 100 percent stock dividend or a 2-for-1 split? Assume that either action is feasible.
One position expressed in the financial literature is that firms set their dividends as a residual after using income to support new investment.a. Explain what a residual policy implies (assuming all distributions as dividends), illustrating your answer with a table showing how different investment
Indicate whether the following statements are true or false. If the statement is false, explain why.a. If a firm repurchases its stock in the open market, the shareholders who tender the stock are subject to capital gains taxes.b. If you own 100 shares in a company’s stock and the company’s
Axel Telecommunications has a target capital structure that consists of 70 percent debt and 30 percent equity. The company anticipates that its capital budget for the upcoming year will be $3,000,000. If Axel reports net income of $2,000,000 and it follows a residual distribution model with all
Gamma Medicals stock trades at $90 a share. The company is contemplating a 3-for-2 stock split. Assuming that the stock split will have no effect on the total market value of its equity, what will be the company’s stock price following the stock split?
Northern Pacific Heating and Cooling Inc. has a 6-month backlog of orders for its patented solar heating system. To meet this demand, management plans to expand production capacity by 40 percent with a $10 million investment in plant and machinery. The firm wants to maintain a 40 percent
Petersen Company has a capital budget of $1.2 million. The company wants to maintain a target capital structure which is 60 percent debt and 40 percent equity. The company forecasts that its net income this year will be $600,000. If the company follows a residual distribution model and pays all
The Wei Corporation expects next year’s net income to be $15 million. The firm’s debt ratio is currently 40 percent. Wei has $12 million of profitable investment opportunities, and it wishes to maintain its existing debt ratio. According to the residual distribution model (assuming all payments
After a 5-for-1 stock split, the Strasburg Company paid a dividend of $0.75 per new share, which represents a 9 percent increase over last year’s pre-split dividend. What was last year’s dividend per share?
The Welch Company is considering three independent projects, each of which requires a $5 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects are presented below:Note that the projects’ cost of capital varies because the projects have different
In 2004 the Keenan Company paid dividends totaling $3,600,000 on net income of $10.8 million. 2004 was a normal year, and for the past 10 years, earnings have grown at a constant rate of 10 percent. However, in 2005, earnings are expected to jump to $14.4 million, and the firm expects to have
Buena Terra Corporation is reviewing its capital budget for the upcoming year. It has paid a $3.00 dividend per share (DPS) for the past several years, and its shareholders expect the dividend to remain constant for the next several years. The company’s target capital structure is 60 percent
Define each of the following terms:a. Going public; new issue market; initial public offering (IPO)b. Public offering; private placementc. Venture capitalists; road show; spreadd. Securities and Exchange Commission (SEC); registration statement; shelf registration; margin requirement; insiderse.
Is it true that the “flatter,” or more nearly horizontal, the demand curve for a particular firm’s stock, and the less important investors regard the signaling effect of the offering, the more important the role of investment bankers when the company sells a new issue of stock?
The SEC attempts to protect investors who are purchasing newly issued securities by making sure that the information put out by a company and its investment bankers is correct and is not misleading. However, the SEC does not provide an opinion about the real value of the securities; hence, an
How do you think each of the following items would affect a company’s ability to attract new capital and the flotation costs involved in doing so?a. A decision of a privately held company to go public.b. The increasing institutionalization of the “buy side” of the stock and bond markets.c.
Before entering a formal agreement, investment bankers carefully investigate the companies whose securities they underwrite; this is especially true of the issues of firms going public for the first time. Since the bankers do not themselves plan to hold the securities but intend to sell them to
Security Brokers Inc. specializes in underwriting new issues by small firms. On a recent offering of Beadles Inc., the terms were as follows: The out-of-pocket expenses incurred by Security Brokers in the design and distribution of the issue were $300,000. What profit or loss would Security
The Beranek Company, whose stock price is now $25, needs to raise $20 million in common stock. Underwriters have informed the firm’s management that they must price the new issue to the public at $22 per share because of signaling effects. The underwriters’ compensation will be 5 percent of the
The Edelman Gem Company, a small jewelry manufacturer, has been successful and has enjoyed a good growth trend. Now Edelman is planning to go public with an issue of common stock, and it faces the problem of setting an appropriate price on the stock. The company and its investment bankers believe
Jan Volk, financial manager of Green Sea Transport (GST), has been asked by her boss to review GST’s outstanding debt issues for possible bond refunding. Five years ago, GST issued $40,000,000 of 11 percent, 25-year debt. The issue, with semiannual coupons, is currently callable at a premium of
Mullet Technologies is considering whether or not to refund a $75 million, 12 percent coupon 30-year bond issue that was sold 5 years ago. It is amortizing $5 million of flotation costs on the 12 percent bonds over the issue’s 30-year life. Mullet’s investment bankers have indicated that the
Define each of the following terms:a. Lessee; lessorb. Operating lease; financial lease; sale and leaseback; combination lease; synthetic lease; SPEc. “Off-balance sheet” financing; capitalizingd. FASB Statement 13e. Guideline leasef. Residual valueg. Lessee’s analysis; lessor’s analysish.
Distinguish between operating leases and financial leases. Would you be more likely to find an operating lease employed for a fleet of trucks or for a manufacturing plant?
Would you be more likely to find that lessees are in high or low income tax brackets as compared with lessors?
Commercial banks moved heavily into equipment leasing during the early 1970s, acting as lessors. One major reason for this invasion of the leasing industry was to gain the benefits of accelerated depreciation and the investment tax credit on leased equipment. During this same period, commercial
One alleged advantage of leasing voiced in the past is that it kept liabilities off the balance sheet, thus making it possible for a firm to obtain more leverage than it otherwise could have. This raised the question of whether or not both the lease obligation and the asset involved should be
Suppose there were no IRS restrictions on what constituted a valid lease. Explain, in a manner that a legislator might understand, why some restrictions should be imposed. Illustrate your answer with numbers.
Suppose Congress enacted new tax law changes that would (1) permit equipment to be depreciated over a shorter period, (2) lower corporate tax rates, and (3) reinstate the investment tax credit. Discuss how each of these potential changes would affect the relative volume of leasing versus
In our Anderson Company example, we assumed that the lease could not be cancelled. What effect would a cancellation clause have on the lessee’s analysis On the lessor’s analysis?
A. Sadik Industries must install $1 million of new machinery in its Texas plant. It can obtain a bank loan for 100 percent of the required amount. Alternatively, a Texas investment banking firm that represents a group of investors believes that it can arrange for a lease financing plan. Assume that
Reynolds Construction needs a piece of equipment that costs $200. Reynolds either can lease the equipment or borrow $200 from a local bank and buy the equipment. If the equipment is leased, the lease would not have to be capitalized. Reynolds balance sheet prior to the acquisition of the equipment
Assume that Reynolds’ tax rate is 40 percent and the equipment’s depreciation would be $100 per year. If the company leased the asset on a 2-year lease, the payment would be $110 at the beginning of each year. If Reynolds borrowed and bought, the bank would charge 10 percent interest on the

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