Team D
Hi everyone,
Here is our week 4 assignment. I highlighted how I propose we split up this assignment. Each section should be about 150 - 200 words.
Resource: Evaluating McGraw Industries’ Capital Structure Case in Ch. 11 of Principles of Managerial Finance
Write a 350- to 700-word memo to the president of McGraw Industries that responds to questions in the case.
Explain how the cost of debt, cost of equity, and weighted average cost of capital are determined.
Cost of debt is simply the weighted rates of interest paid by the company on its debts. However, cost is equity is not so straightforward. The cost of equity is based on an estimate of a reasonable rate of return on the shareholders' investment. The term ‘reasonable’
…show more content…
However, even though earnings per share will be maximized with this capital structure, it may not be the best option. With the increased debt, the company will be considered a financial risk with a low times interest earned ratio of 2.00. A low times interest earned ratio indicates that the company may be unable to make payments on contractual interest that becomes due and this is a great risk factor.
d. Using the zero-growth valuation model given in Equation 11.12, find the market value of McGraw’s equity under each of the three capital structures at the $1,200,000 level of expected EBIT.
Current Capital Structure: so, $6.12 / .12 = 55.5 or $55.50
Alternative A at 30%: so, $7.71 / .13 = 59.31 or $59.31
Alternative B at 50%: so, $9.00 / .18 = 50.00 or $50.00
e. On the basis of your findings in parts c and d, which capital structure would you recommend? Why?
After evaluating which structure can maximize EPS and keep EPS high during zero growth valuation, I believe alternative A is the best. The reason alternative A is better then both the current structure and alternative B is it raise EPS and still keeps debt at a low percentage. This allows the company to have more financial leverage, not be a risk for falling behind at a time interest ratio of 4.00, and give a decent return to shareholders. The current option is too much equity financing with a smaller EPS and
We use Capital Asset Pricing Model (CAPM) approach to calculate the cost of equity. The formula of CAPM is re = rf + β × (E[RMkt] – rf).
Nevertheless, the use of the Optimal Capital Structure (OCS) is the right techniques to be used in order to acquire the right combination of debt and equity that can maximize the
Using the weighted average cost of capital valuation method, I determined the rWACC with the following numbers:
The firm has decided to increase the debt finance component portion from 20% to 30% which is a good decision since the interest payments are 100% tax deductible. The appropriate capital structure would be to
• Cost of capital must reflect current capital market conditions (current required returns) • Cost of capital must also reflect the optimal relative proportions of debt and equity the firm will
3. What is the company’s sustainable growth rate based on the projections for 2002 and 2003? Is the company growing beyond its financial capabilities?
2. Describe briefly Intel’s current capital structure. Discuss whether in your view this capital structure is optimal for Intel, with particular emphasis on the pros and cons of Intel’s substantial cash holdings. Articulate and defend a “target” capital structure for Intel. Cee
* Please choose either the CAPM estimate or the DDM estimate for cost of equity based on your answer to Question 3.
E. Cindy and Rob estimate that the market value of the common equity in the venture is $900,000 at the end of 2010. The market values of interest-bearing debt are judged to be the same as the recorded book values at the end of 2010. Estimate the market value-based weighted average cost of capital for Castillo Products.
2) Is Diageo’s current capital structure appropriate to its new business? It believes that it has traditionally had a conservative debt policy. If so, is that policy still appropriate? Has Diageo’s capital structure been as conservative
1. What is the weighted average cost of capital for Marriot Corporation? Briefly outline the key assumptions that you made in computing the WACC. 2. What is the cost of capital for the lodging and restaurant divisions of Marriot Corporation? Briefly outline the key assumptions that you made in computing the cost of capital and outline any limitations that are presented by your analysis. 3. If Marriot uses a single company-wide cost of capital for evaluating investment opportunities in each of its line of business, what do you think will happen to the company over time? 4. Briefly describe how each of the following events will likely impact Marriot’s cost of capital: (a) An increase in the long-term T-Bond rate by 2%. (b) Increased
We would recommend the capital structure with 30% debt. This is because with 30% debt, they would be able to repurchase 19.8 million shares outstanding as well as save 37.8 million in taxes. EBIT is high in this company, and because of this, financial leverage will raise EPS and ROE. However, variability also increases as financial leverage increases, so the company would not want to take on too much debt and become very risky.
What do you think about the capital structure policies Diageo has pursued in the past. Do they make sense? How does it compare to Diageo’s competitors’ policies? Which competitors would make for the best comparison? (40%)
Financial performance of firm and its value is greatly affected by the design of its capital structure. This issue is getting immense consideration after the MM,
The theory of the capital structure is an important reference theory in enterprise’s financing policy. Whether or not an optimal capital structure exists is one of the most important and complex issues in corporate finance. How an organization is financed is of paramount importance to both the managers of firms and providers of funds. This is because a wrong mix of finance is employed the performance and survival of the business enterprise may be seriously affected.