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financial management theory
Financial Management Principals And Applications 11th Edition Sheridan Titman, John D Martin, Arthur J Keown - Solutions
(Computing interest tax savings) Dharma Supply has earnings before interest and taxes (EBIT) of $500,000, interest expenses of $300,000, and faces a corporate tax rate of 35%.a. What is Dharma Supply’s net income?b. What would Dharma’s net income be if it didn’t have any debt (and
Can you assess which of the two firms is more highly levered(i.e., uses the most financial leverage)? If so, what is your assessment of the two firms’ capital structure?d. (Optional) What is the credit rating for Lowe’s and how does it compare to that of Home Depot? (Hint: look up bond credit
(Describing a firm’s capital structure) Lowe’s Companies, Inc. (LOW) and its subsidiaries operate as a home improvement retailer in the United States and Canada.As of February 1, 2008, it operated 1,534 stores in 50 states and Canada. The company’s balance sheet for February 1 financing:a.
(Related to Checkpoint 15.1 on page 509) (Describing a firm’s capital structure) The Home Depot, Inc. (HD) operates as a home improvement retailer primarily in the United States, Canada, and Mexico. The balance sheet for Home Depot, Inc. (HD) for February 3, 2008, included the following
(Adjusting a firm’s capital structure) Curley’s Fried Chicken Kitchen operates two southern cooking restaurants in St. Louis, MO, and has the following financial structure:Accounts payable $ 100,000 Short-term debt 400.000 Current liabilities $ 500,000 Long-term debt $2,000,000 Owner’s equity
(Related to Checkpoint 15.1 on page 509) (Calculating capital structure weights) Winchell Investment Advisors is evaluating the capital structure of Ojai Foods. Ojai’s balance sheet indicates that the firm has $50 million in total liabilities. Ojai has only $40 million in shortand long-term debt
(Calculating capital structure weights) The common stock of Moe’s Restaurant’s is currently selling for $80 per share, has a book value of $60 per share, and there are 1 million shares of common stock outstanding. In addition, the firm also has 100,000 bonds outstanding with a par value of
(Related to Checkpoint 15.1 on page 509) (Calculating debt ratio) Webb Solutions, Inc.has the following financial structure:Accounts payable $ 500,000 Short-term debt 250.000 Current liabilities $ 750.000 Long-term debt 750,000 Shareholders’ equity 500.000 Total $2,000,000a. Compute Webb’s debt
(Related to Finance in a Flat World: Capital Structures around the World on page 517) In the Finance in a Flat World feature box we learned that capital structures differ dramatically in different countries around the world. What are some possible causes for the observed differences?
A firm is considering replacing its current production facility with a new robotics production facility. As a result of this move, the firm’s fixed costs will increase dramatically. To finance this new project the firm is considering either issuing common stock or issuing debt. Should the firm
What is financial flexibility and why is it an important consideration when evaluating a financing decision?
Do you think firms with stable income streams should use higher or lower levels of debt in their capital structures? Why?
Explain how industry norms might be used by the financial manager in the design of the company’s financing mix.
The Ballard Corporation is considering adding more debt to its capital structure and has asked you to provide it with some guidance. After looking at future levels of Ballard’s EBIT, you feel very confident that in the future it will consistently be above their EBITEPS indifference point
What is EBIT-EPS analysis and how is it used in helping make financing decisions?
Describe how each of the four financial ratios found in Table 15.3 is used to help managers make financing decisions.
What does the term benchmarking mean with respect to making financing decisions?
What are agency costs and how do they become a relevant consideration in determining a firm’s capital structure?
How does the presence of cost of financial distress combined with the tax deductibility of interest (and the resulting interest tax savings) affect a firm’s weighted average cost of capital as the firm increases its use of debt financing from no debt to higher and higher levels of debt?
What are financial distress costs and how are they related to the firm’s financing decisions?
What are interest tax savings and how do they affect the relevance of a firm’s financing decisions?
Describe why capital structure is relevant to the value of the firm. Discuss the potential violations of both of the basic assumptions that support the M&M capital structure theory.
Under the conditions of the M&M capital structure theory the firm’s financing decisions do not have an impact on firm value. When this theory holds (i.e., is true), how do the firm’s financing decisions affect the firm’s weighted average cost of capital? Describe how the cost of equity and
What does Figure 15.2 have to say about the impact of a firm’s financing decisions on firm cash flow?
What are the two fundamental assumptions that are used to support the M&M capital structure theory? Describe each in common sense terms.
What is the significance of the notion that a firm’s financing decisions are irrelevant?What does this mean to the financial manager?
What are non-interest bearing liabilities? Give some examples. Why are non-interest bearing liabilities not included in the firm’s capital structure?
How does a firm’sfinancial structure differ from its capital structure?
(Related to Regardless of Your Major: Capital Structure Matters to You! on page 492) In the Regardless ofYour Major feature box we learned about the dangers of using a high proportion of debt financing faced by both General Motors (GM) and Lehman Brothers How could the failure of these firms
How are various leverage ratios and industry norms used in capital structure management?
What is the EBIT-EPS indifference point, and how is this concept useful in analyzing a capital structure decision?
In what ways does the firm's capital structure affect its eamings per share?
What are some reasons for firms in different industries to have different capital structures?
Discuss the role of the following factors on the firm's capital structure decision: taxes, bankruptcy costs, managerial incentives, and how well-informed managers are compared to stockholders.
Who were the financial economists that in 1958 challenged the importance of capital structure management? What is the essence of their theory of capital structure?
What determines whether financial leverage is favorable or unfavorable?
What is financial leverage?
What does the times interest earned ratio measure?
How does the debt ratio differ from the debt to value ratio?
(Flotation costs) Two-Foot Tools, Inc. sells and distributes work footwear and other clothing for people who work under extreme cold conditions such as in the Arctic or Antarctica. The company recently borrowed $10 million from a consortium of banks and agreed to pay 9% interest before considering
(Flotation costs) The Pandora Internet Radio Company was started in 2000 to provide a personalized radio listening experience over your computer or iPhone and is privately owned. However, its success could easily lead its owners to take the company public with the sale of common stock to the
(Related to Checkpoint 14.4 on page 477) (Flotation costs and NPV analysis) The Faraway Moving Company is involved in a major plant expansion that involves the expenditure of $200 million in the coming year. The firm plans on financing the expansion through the retention of $150 million in firm
(Weighted average cost of capital) As a consultant to GBH Skiwear, you have been asked to compute the appropriate discount rate to use in the evaluation of the purchase of a new warehouse facility. You have determined the market value of the firm’s current capital structure (which the firm
(Weighted average cost of capital) As a member of the Finance Department of Ranch Manufacturing, your supervisor has asked you to compute the appropriate discount rate to use when evaluating the purchase of new packaging equipment for the plant. Under the assumption that the firm’s present
(Weighted average cost of capital) Bane Industries has a capital structure consisting of 60% common stock and 40% debt. The firm’s investment banker has advised the firm that debt issued with a $1,000 par value, 8% coupon (interest paid semi-annually), maturing in 20 years can be sold today in
(Weighted average cost of capital) The target capital structure for lowers Manufacturing is 50% common stock, 15% preferred stock, and 35% debt. If the cost of common equity for the firm is 20%, the cost of preferred stock is 12%, and the before¬tax cost of debt is 10%, what is lowers’ cost of
(Weighted average cost of capital) Crypton Electronics has a capital structure consisting of 40% common stock and 60% debt. A debt issue of $1,000 par value, 6% bonds that mature in 15 years and pay annual interest will sell for $975. Common stock of the firm is currently selling for $30 per share
(Weighted average cost of capital) In the spring of last year Tempe Steel learned that the firm would need to re-evaluate the company’s weighted average cost of capital following a significant issue of debt. The firm now has financed 45% of its assets using debt and 55% using equity. Calculate
(Related to Checkpoint 14.1 on page 459) (Weighted average cost of capital) The target capital structure for QM Industries is 40% common stock, 10% preferred stock, and 50% debt. If the cost of common equity for the firm is 18%, the cost of preferred stock is 10%, the before-tax cost of debt is 8%,
(Cost of debt) Sincere Stationery Corporation needs to raise $500,000 to improve its manufacturing plant. It has decided to issue a $1,000 par value bond with a 10% annual coupon rate and a 10-year maturity. The investors require a 9% rate of return.a. Compute the market value of the bonds.b. How
(Cost of debt) Gillian Stationery Corporation needs to raise $600,000 to improve its manufacturing plant. It has decided to issue a $1,000 par value bond with an 8% annual coupon rate and a 10-year maturity. Investors require a 10% rate of return.a. Compute the market value of the bonds.b. How many
(Related to Checkpoint 14.2 on page 466 and Checkpoint 14.3 on page 469) (Cost of common equity) The common stock for the Hetterbrand Corporation sells for $60, and the last dividend paid was $2.25. Five years ago the firm paid $1.90 per share, and dividends are expected to grow at the same annual
(Cost of common equity) The common stock for the Bestsold Corporation sells for$58 a share. Last year the firm paid a $4 dividend, which is expected to continue to grow 4% per year into the indefinite future. If Bestsold’s tax rate is 34%, what is the firm’s cost of common equity?
(Related to Checkpoint 14.2 on page 466) (Cost of common equity) The common stock for Oxford, Inc. is currently selling for $22.50, and the firm paid a dividend last year of$1.80. The dividends and earnings per share are projected to have an annual growth rate of 4% into the foreseeable future.
(Cost of preferred stock) Your firm is planning to issue preferred stock. The stock is expected to sell for $98 a share and will have a $100 par value on which the firm will pay a 14% dividend. What is the cost of capital to the firm for the preferred stock?
(Cost of debt) The Walgreen Corporation is contemplating a new investment that it plans to finance using one-third debt. The firm can sell new $1,000 par value bonds with a 15-year maturity at a price of $950 that carry a coupon interest rate of 13%. If the company is in a 34% tax bracket, what is
(Cost of preferred stock) The preferred stock of Gator Industries sells for $35 and pays$2.75 per year in dividends. What is the cost of preferred stock financing? If Gator were to issue 500,000 more preferred shares just like the ones it currently has outstanding, it could sell them for $35 a
(Cost of preferred stock) The preferred stock of Walter Industries Inc. currently sells for $36 a share and pays $2.50 in dividends annually. What is the firm’s cost of capital for the preferred stock?
(Cost of debt) Belton Distribution Company is issuing a $1,000 par value bond that pays 7% annual interest and matures in 15 years. Investors are willing to pay $958 for the bond. The company is in the 18 percent marginal tax bracket. What is the firm’s after-tax cost of debt on the bond?
(Cost of debt) Temple-Midland, Inc. is issuing a $ 1,000 par value bond that pays 8%annual interest and matures in 15 years. Investors are willing to pay $950 for the bond and Temple faces a tax rate of 35%. What is Temple’s after-tax cost of debt on the bond?
(Cost of common equity) Falon Corporation is issuing new common stock at a market price of $28. Dividends last year were $1.30 and are expected to grow at an annual rate of 7% forever. What is Falon’s cost of common equity capital?
(Related to Checkpoint 14.2 on page 466) (Cost of common equity) Sake Corporation is issuing new common stock at a market price of $27. Dividends last year were $1.45 and are expected to grow at an annual rate of 6% forever. What is Salte’s cost of common equity?
(Individual or component costs of capital) Compute the cost of capital for the firm for the following:a. Currently bonds with a similar credit rating and maturity as the firm’s outstanding debt are selling to yield 8% while the borrowing firm’s corporate tax rate is 34%.b. Common stock for a
(Individual or component costs of capital) You have just been hired to compute the cost of capital for debt, preferred stock, and common stock for the Mindflex Corporation.a. Cost of debt: Since Mindflex’s bonds do not trade very frequently, you have decided to use 9% as your cost of debt, which
(Individual or component costs of capital) Your firm is considering a new investment proposal and would like to calculate its weighted average cost of capital. To help in this, compute the cost of capital for the firm for the following:a. A bond that has a $1,000 par value (face value) and a
(Individual or component costs of capital) Compute the cost of capital for the firm for the following:a. A bond that has a $1,000 par value (face value) and a contract or coupon interest rate of 11%. The bonds have a current market value of $1,125 and will mature in 10 years. The firm’s marginal
(Defining capital structure weights) In August of 2009 the capital structure of the Emerson Electric Corporation (EMR) (measured in book and market values) appeared as follows:(Thousands of dollars) Book Values Market Values Short-term debt Long-term debt Common equity Total capital$ 1,221,000
(Defining capital structure weights) Templeton Extended Care Facilities, Inc. is considering the acquisition of a chain of cemeteries for $400 million. Since the primary asset of this business is real estate, Templeton’s management has determined that they will be able to borrow the majority of
(Related to Finance in a Flat World: Why Do Interest Rates Differ between Countries? on page 474) Explain the rationale given for differences we observe in interest rates between countries discussed in the feature Finance in a Flat World: Why Do Interest Rates Differ between Countries?
In the chapter introduction we discussed the Starbucks (SBUX) acquisition of Seattle’s Best Coffee Company in 2003. Discuss the relevance of Seattle’s Best’s WACC as the opportunity cost of funds that should be used in valuing the acquisition. What if Starbucks planned to finance the entire
What are flotation costs and how should they be incorporated into the analysis of an investment’s net present value?
The financial crisis of 2007-09 and the ensuing attempts by the Federal Reserve to stave off a deepening recession affected the cost of capital to all firms. Specifically, although very short-term Treasury Bill rates were driven to near zero as investors sought the relative safety of
Companies that face large investments that they cannot finance internally through the retention of earnings must go to the financial markets to raise the needed funds. When they do this they will incur what are commonly referred to as flotation costs. Discuss how these flotation costs should be
Divisional WACCs are the most popular method used in practice to risk-adjust the cost of capital. Describe how you might go about estimating divisional WACCs. What are the pros and cons of using divisional WACCs?
What are the pros and cons of using risk-adjusted costs of capital for individual investments?
(Related to Regardless of Your Major: Understanding the Role of the Cost of Capital on page 454) In the feature titled Regardless ofYour Major: Understanding the Role ofthe Cost ofCapital, what should be the opportunity cost of funds in valuing the cash flows from the ownership of a McDonald’s
What are the basic sources of financing included in a firm’s capital structure?Specifically, what financing sources are excluded from the firm’s capital structure when calculating Firm WACC?
Describe the three-step process for estimating WACC.
What is a Firm’s WACC?
How can flotation costs be incorporated into project analysis?
What are flotation costs and how do they affect a firm's cost of raising capital?
What are divisional WACCS and how do they address the problems encountered in using a single company-wide WACC?
What is the main problem that firms encounter when using the firm's WACC as the cost of capital for all their investment analyses?
Why are current costs and required rates of return used when estimating a firm's WACC instead of historical costs?
Why do we use market values as the basis for calculating the weights used in calculating WACC?
Describe the two approaches that can be taken to estimate the cost of common equity.
How is the cost of new preferred stock estimated?
How can we estimate the cost of new debt financing?
Why are accounts payable not included in the capital structure used to estimate a firm’s WACC?
Should book or market values be used to determine the weights used in calculating the WACC? Explain.
List the three-step procedure used to estimate a firm's weighted average cost of capital.
Why is the firm's cost of capital calculated as a weighted average?
How is an investor's required rate of return related to the firm's cost of capital?
Now that they are comfortable with your skills, your boss would like you to look at a new project. This new project involves the purchase of a new plasma cutting tool that can be used in its metal works division. The products manufactured using the new technology are expected to sell for an average
What is sensitivity analysis and what is its purpose?
How can breakeven analysis be helpful in evaluating project risk?
Explain how simulation works. What is the value of using a simulation approach?
What are real options? How does the presence of optionality in the investments that firms make cause the traditionally calculated NPV of a project to be underestimated?
Explain how sensitivity analysis and scenario analysis are useful tools for evaluating project risk.
(Real options and capital budgeting) Go-Power Batteries has developed a highvoltage nickel-metal hydride battery that can be used to power a hybrid automobile and it can sell the technology immediately to Toyota for $10 million. Alternatively, Go-Power Batteries can invest $50 million in a plant
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