FIN3403 FINAL

Emilie's Pharmacy currently has 3,250 shares outstanding that sell for $63 per share. Assuming no market imperfections or tax effects exist, what will be the share price after a 7-for-5 stock split? What will be the number of shares outstanding?

$45 per share with 4,550 shares

What is the WACC(Weighted Average Cost of Capital)? Equity Information 44 million shares $100 per share Beta = 1.2 Market risk premium = 9% Risk-free rate = 5% Debt Information 1 million bonds outstanding Current price = 1,100 Coupon rate = 9%, semiannual coupons 15 years to maturity Face value = 1,000 Tax rate = 40%

1. Find Cost of Equity using CAPM or D1/P0 + g 5+1.2(9)=15.8 2. Find Market Value of Equity using (price of share)(number of shares). 100*44 million=4400 million, or 4.4 billion 3. Find cost of Debt using TMV Solver N=15*2=30 PV=-1100 PMT= 9%/2 * 1000= .045*1000=45 FV=1000 Solve for I%=7.8537 4. Find Market Value of Debt using (price of bond)(number of bonds outstanding). 1100*1 million=1100 million= 1.1 billion 5. Find weights for MV of Equity (4.4 bill) and MV of Debt (1.1 bill) 1.1+4.4=5.5 Billion, 4.4/5.5=.8, 1.1/5.5=.2, 6. Plug into WACC formula .8(15.8)+ .2(7.8537)(1-.4) =12.64+1.57074(.6) =13.582444

What are the two ways to calculate cost of equity?

Cost of equity is equal to CAPM Cost of equity is the required return, or D1/P0 +g

Nova Productions has 1000 shares outstanding and 200 bonds outstanding. Its stock price is $48. The expected return on the market is 18%, the risk-free rate is 2%, and Nova's beta is 1. Its bond price is $1200.00 with 5 years left to maturity and a coupon rate of 13% with interest paid semiannually. Nova's corporate tax rate is 40%. What is Nova's cost of equity? What is Nova's market value of equity? What is Nova's cost of debt? What is Nova's market value of debt? What are Nova's weights in debt and equity? What is Nova's WACC?

Cost of equity: 2% + 1*(18% - 2%) = 18% Market value of equity: 1000*48= 48,000 Cost of debt: N=10, PMT=65, PV= -1200.00, FV=1000, CPT I/Y = 4.0304*2 = 8.0608% Market value of debt: 200*1200 = 240,000 Total value = 48,000 + 240,000 = 288,000 WE = 48,000/288,000 = .1667 WD = 240,000/288,000 = .8333 WACC = .1667*18% + .8333*8.0608%*(1-.4) WACC = 7.03%

The Current Plan is: All Equity No Debt Equity=8 million Firm Value=8 million Shares Outstanding=400,000 Interest Expense=0 The Proposed Plan is: 50% Equity, 50% Debt Debt=4 million Equity=4 million Firm Value=8 Million Shares Outstanding=200,000 Interest expense=10%, or 400,000 EBIT=1,000,000 What is ROE and EPS for the proposed and current plans?

Current Plan Net Income=1,000,000 ROE=1,000,000/8,000,000=12.5% EPS=1,000,000/400,000=$2.50 Proposed Plan Net Income=1,000,000-400,000 ROE=(1,000,000-400,000)/4,000,000=15% EPS=(1,000,000-400,000)/200,000=$3.00

As the CFO, you are trying to estimate the WACC for your company. You have already determined that the cost of debt is 7% and the cost of equity is 11%. Your companies corporate tax rate is 35%. You know that your company has 1325 bonds outstanding with a bond price of $1115. Your company's stock is trading at $46 with 7300 shares outstanding. What is your companies WACC?

E=46*7300=335800 D=1115*1325=1477375 V=335800+1477375=1813175 Weight in Equity=335800/1813175=.1852 Weight in Ddebt=1477375/1813175=.8148 WACC=(.1852)(11%)+(.8148)(7%)(1-.35)=5.74%

Lance Corp. currently has 650 shares outstanding and $1,500 in debt (Plan A). Its CEO is evaluating a proposal to move to 500 shares outstanding and $3,000 in debt (Plan B). The interest rate is 10% under both plans. Assume no taxes. What is the interest expense under Plan A? What is the interest expense under Plan B? What is the break-even EBIT? If EBIT was projected to be $1,100, would we want to switch to Plan B?

EBITBE = $800 yes

What is the formula for EPS or Earnings Per Share?

Earnings(net income)/Number of Shares

What are the formulas for the break even point EBIT for each plan?

FOR PLANS A AND B EPSA = [ (EBIT - IA)(1-t) ] / SA EPSB = [ (EBIT - IB)(1-t) ] / SB I=interest expense S=Number of Shares of Stock

STP Corp. uses no debt. The weighted average cost of capital is 8 percent. If the current market value of the equity is $18 million and there are no taxes, what is EBIT? In the previous question, suppose the corporate tax rate is 35 percent. What is EBIT in this case? What is the WACC? Explain.

If there are corporate taxes, the value of an unlevered firm is: VU = EBIT(1 - T)/RU Using this relationship, we can find EBIT as: $18,000,000 = EBIT(1 - .35)/.08 EBIT = $2,215,384.62 The WACC remains at 8 percent. Due to taxes, EBIT for an all-equity firm would have to be higher for the firm to still be worth $18 million

Blanco Corp. is 35% debt and 65% equity. Blanco's EBIT is $315 and total assets are $3,000. Blanco is currently paying a 8% interest rate on $1,050 of debt. Assume no taxes. If Net Income = EBIT - Interest Expense, what is Blanco's Net Income? What is Blanco's ROE?

Net Income = 315 - .08*1,050 = 231 ROE = 231/1950 = .1185 or 11.85%

What is the formula for ROE or Return on Equity?

Net Income/total Assets * Total Assets/Total Equity or Net Income/Total Equity

What is the formula for net income?

Net Income= EBIT-Interest expense

Under a capital structure of 20% debt and 80% equity, Ricardo Corp's cost of equity was 13%. Under a capital structure of 50% debt and 50% equity, Ricardo Corp's cost of equity was 16%. Verify that the WACC is the same in both cases. Assume no taxes. Cost of debt is still 8 percent.

RA = (E/V)*RE + (D/V)*RD RA = .8*13% + .2*8% RA = 12% RA = (E/V)*RE + (D/V)*RD RA = .5*16% + .5*8% RA = 12%

Assume no taxes. Ricardo Corp has a WACC of 12% and a cost of debt of 8%. What is Ricardo's cost of equity if its capital structure is 80% equity and 20% debt?

RE = RA + (D/E)*(RA - RD) RE = 12% + (.2/.8)*(12% - 8%)

Ricardo Corp's WACC is still 12% and its cost of debt of 8%. What is Ricardo's cost of equity if its capital structure is 50% equity and 50% debt?

RE = RA + (D/E)*(RA - RD) RE = 12% + (.5/.5)*(12% - 8%)

if the unlevered cost of capital is 15%, the cost of equity is 24%, the cost of debt is 9%, the tax rate is 40%, what is the debt to equity ratio? use MM || with taxes

RE = RU + (RU - RD)(D/E)(1 - T) 24%=15%+D/E(15%-9%)(1-.4) 9%=(D/E)3.6% 2.5=D/E

What is the Formula for EBITbe (EBIT Break Even Point)

Sb(IA)/SB-SA - SA(IB)/SB-SA

Suppose In a Found, Ltd., just issued a dividend of $1.69 per share on its common stock. The company paid dividends of $1.35, $1.43, $1.50, and $1.61 per share in the last four years. If the stock currently sells for $50, what is your best estimate of the company's cost of equity capital using the arithmetic average growth rate in dividends?

To use the dividend growth model, we first need to find the growth rate in dividends. So, the increase in dividends each year was: g1 = ($1.43 - 1.35)/$1.35 = .0593, or 5.93% g2 = ($1.50 - 1.43)/$1.43 = .0490, or 4.90% g3 = ($1.61 - 1.50)/$1.50 = .0733, or 7.33% g4 = ($1.69 - 1.61)/$1.61 = .0497, or 4.97% So, the average arithmetic growth rate in dividends was: g = (.0593 + .0490 + .0733 + .0497)/4 = .05781, or 5.781% (or if you round differently, you'll get 5.7825%) Using this growth rate in the dividend growth model, we find the cost of equity is: RE = [$1.69(1.05781)/$50] + .05781 = .0936, or 9.36%

How do you estimate the dividend growth rate? What is the dividend growth rate for the following? Year Dividend 2005 1.23 2006 1.30 2007 1.36 2008 1.43 2009 1.50

Use the Historical Average (1.30 - 1.23) / 1.23 = 5.7% (1.36 - 1.30) / 1.30 = 4.6% (1.43 - 1.36) / 1.36 = 5.1% (1.50 - 1.43) / 1.43 = 4.9% 5.7+4.6+5.1+4.9/4= 5.075

Based on M&M Proposition II with Taxes, We know that the cost of debt is 10%, cost of equity is 39.4%, tax rate is 34%, value of equity is 170, and value of debt is 500. What is WACC?

WACC = (170/670)*.394 + (500/670)*.1*(1-.34) = .1492 = 14.92%

Chandeliers Corp. has no debt but can borrow at 6.1 percent. The firm's WACC is currently 9.5 percent, and the tax rate is 35 percent. a. What is the company's cost of equity? b. If the firm converts to 25 percent debt, what will its cost of equity be? c If the firm converts to 50 percent debt, what will its cost of equity be? d What is the company's WACC in part (b)? In part (c)?.

a. For an all-equity financed company: WACC = RU = RE = .095 or 9.5% b. To find the cost of equity for the company with leverage we need to use M&M Proposition II with taxes, so: RE = RU + (RU - RD)(D/E)(1 - T) RE = .095 + (.095 - .061)(.25/.75)(.65) RE = .1024, or 10.24% c. Using M&M Proposition II with taxes again, we get: RE = RU + (RU - RD)(D/E)(1 - T) RE = .095 + (.095 - .061)(.50/.50)(1 - .35) RE = .1171, or 11.71% d. The WACC with 25 percent debt is: WACC = (E/V)RE + (D/V)RD(1 - T) WACC = .75(.1024) + .25(.061)(1 - .35) WACC = .0867, or 8.67% And the WACC with 50 percent debt is: WACC = (E/V)RE + (D/V)RD(1 - T) WACC = .50(.1171) + .50(.061)(1 - .35) WACC = .0784, or 7.84%