Assignment 6

NOTE1: For the problems below, you must show your calculations to receive credit.

NOTE2: For the discussion questions below, your answers should be in your own words, not shared from another student or copied from any other source (including the textbook). I do not expect a lengthy response, but I do expect your answer for each question will be about a paragraph with approximately 50-100 words and that your answer is written in your own words.

Chapter 11

1. BlueGreen Waste Management can buy a piece of equipment that is anticipated to provide a 9 percent return and can be financed at 5 percent with debt. Later in the year, the firm considers an opportunity to buy a new machine that would yield a 13 percent return but would cost 15 percent to finance through common equity. Assume debt and common equity each represent 50 percent of the firm’s capital structure.
2. a. Compute the weighted average cost of capital.
3. b. Which project(s) should be accepted?

1. Calculate the aftertax cost of debt under each of the following conditions.
 Yield Corporate Tax Rate a. 6.0% 25% b. 13.4 35 c. 8.5 0

1. The Bunny Corporation issued \$100 par value preferred stock 10 years ago. The stock provided a 7 percent yield at the time of issue. The preferred stock is now selling for \$184. What is the current yield or cost of the preferred stock?

1. Byrd Products, Inc. wants to determine the minimum cost of capital point for the company. Assume it is considering the following financial plans:
 Cost(aftertax) Weights Plan A Debt………………………………… 5.0% 20% Preferred stock………………….. 7.0 10 Common equity………………… 12.0 70 Plan B Debt………………………………… 5.5% 30% Preferred stock………………….. 8.0 10 Common equity………………… 14.0 60 Plan C Debt………………………………… 6.0% 40% Preferred stock………………….. 9.0 10 Common equity………………… 15.0 50 Plan D Debt………………………………… 9.0% 50% Preferred stock………………….. 11.0 10 Common equity………………… 17.0 40
1. a. Which of the four plans has the lowest weighted average cost of capital? (Round to two places to the right of decimal point.)
2. b. Briefly discuss the results from Plan C and Plan D, and why one is better than
the other.

Chapter 12

1. Bermuda AirwaysCorporation has earnings before depreciation and taxes of \$100,000, depreciation of \$50,000, and that it has a 25 percent tax bracket.
2. Compute its cash flow using the format below.

Earnings before depreciation and taxes                   _____

Depreciation                                                             _____

Earnings before taxes                                               _____

Taxes @ 25%                                                           _____

Earnings after taxes                                                 _____

Depreciation                                                             _____

Cash Flow                                                                _____

1. How much would cash flow be if there were only \$10,000 in depreciation? All other factors are the same.
2. c. How much cash flow is lost due to the reduced depreciation between a & b?

1. Bella Vista Boat Manufacturing Company is considering investing\$550,000 and has two alternatives from which to choose. Eachinvestment alternative costs \$550,000 and has the following expected cash flows.
 Year Investment A Investment B 1……………. \$100,000 \$200,000 2……………. 110,000 250,000 3……………. 130,000 100,000 4……………. 160,000 — 5……………. 300,000 —
1. Which alternative would you select under the payback method?
2. If the inflow in the fifth year for Investment A were \$1,000,000 instead of \$300,000, would your answer change under the payback method?

1. Bear Corp. will invest \$90,000 in a temporary project that will generate the following cash inflows for the next three years (inflows at the end of the year).
 Year Cash Flow 1………… \$23,000 2………… 38,000 3………… 61,000

The firm will be required to spend \$18,500 to close down the project at the end of the three years. If the cost of capital is 10 percent, should the investment be undertaken? Use the net present value method.

Chapter 13

1. Bailey’s Dance Studio is considering the purchase of new sound equipment that will enhance the popularity of its aerobics dancing. The equipment will cost \$25,000. The owner is not sure how many members the new equipment will attract, but she estimates that her increased annual cash flows for each of the next five years will have the following probability distribution. Her cost of capital is 10 percent.
 Cash Flow Probability \$3,600…………. .2 5,000…………. .3 7,400…………. .4 9,000…………… .1
1. a. What is the expected value of the cash flow? The value you compute will apply to each of the five years.
2. b. What is the expected net present value?
3. c. Should she buy the new equipment?

NOTE: BEFORE answering these discussion questions, read the NOTE2 at the beginning of this assignment.

Chapter 14

1. What is the key tax characteristic for investors associated with state and local (municipal) securities?

1. How would you define efficient security markets?

1. The efficient market hypothesis is interpreted in a weak form, a semistrong form, and a strong form. How can we differentiate its various forms?

1. What was the primary purpose of the Securities Act of 1933?

Chapter 15

1. What are the benefits accruing to a company that is traded in the public securities markets?

1. What are the disadvantages to being public?

1. How does a leveraged buyout work? What does the debt structure of the firm normally look like after a leveraged buyout? What might be done to reduce the debt?