1 . Consider an all-equity financed firm. The firm has a beta of 1.1, the risk-free rate is 2%, and the market risk premium is 4%. What is the firm's WACC? (Assume the CAPM holds.) 2 . Consider a firm
1. Consider an all-equity financed firm. The firm has a beta of 1.1, the risk-free rate is 2%, and the market risk premium is 4%. What is the firm's WACC? (Assume the CAPM holds.)
2. Consider a firm financed using long-term debt with a value of $100 million and a before-tax cost of 4%. The firm also has 10 million shares outstanding at a price of $40/share. Assume the firm's cost of equity is 8% and its corporate tax rate is 20%.
a. What is the total value of the equity? What is the total firm value?
b. What is the firm's WACC?
3. A firm is financed with equity and a single issue of 5-year zero-coupon debt. The debt is currently trading at a price of $800 for each $1,000 face amount payable at maturity.
a. What is the yield on the debt?
b. Assume there is a 90% chance that the firm will pay the debt in full at maturity, and a 10% chance that they will default and pay nothing. What is the expected payoff on $1,000 face amount of debt? (1 point) What is the expected return on the debt (given the $800 price)?
4. Ignore taxes (i.e., assume the corporate tax rate is 0%) and assume the CAPM holds. Apple is thinking of getting into the electric power generation business. The average electric power company has a capital structure that is 40% debt and 60% equity, with a debt beta of 0.1 and an equity beta of 0.8.
a. What is the asset beta of the electric power generation business?
b. Assume Apple will finance its electric power generation business with 20% risk-free debt and 80% equity.
i. What will the equity beta of this business be?
ii. Assuming a risk-free rate of 2% and an equity risk premium of 4%, what will be the cost of this equity (1 point) and the WACC of Apple's power generation business?
c. Apple's investment banker tells them they are crazy. Instead of financing the business 80/20 (equity/debt), he advises a financing mix of 70% debt, 30% equity. Under this financing, the debt will be riskier, with a beta of 0.2. Under these new assumptions
i. What is Apple's cost of debt for electric power generation? (Use the risk-free rate and market risk premium from part c to calculate the cost of debt.)
ii. What is Apple's equity beta and cost of equity for electric power generation?
(Use the risk-free rate and market risk premium from part b.)
iii. Finally, what is Apple's WACC for electric power generation?
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1 Cost of Equity View the full answer
The Dupont analysis is an expanded return on equity formula, calculated by multiplying the net profit margin by the asset turnover by the equity multiplier. The DuPont analysis is also known as the DuPont identity or DuPont model.This Video will guide on how to calculate return on Equity and estimate profitability of shareholders using DuPont Analysis.