Fin 571 Week 5

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Chapter 17
Question B1
Bixton Company’s new chief financial officer is evaluating Biston’s capital structure. She is concerned that the firm might be underleveraged, even though the firm has larger-than-average research and development and foreign tax credits when compared to other firms in its industry. Her staff prepared the industry comparison shown here.
Rating Category Fixed Charge Coverage Funds From Operations/Total Debt Long-Term Debt/Capitalization
Aa 4.00-5.25x 60-80% 17-23%
A 3.00-4.30 45-65% 22-32%
Baa 1.95-3.40 35-55% 30-41%

A. Bixton’s objective is to achieve a credit standing that falls, in the words of the chief financial officer, “comfortably within the “A” range. What target range would you recommend for each of
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Recommend a reasonable dividend policy for paying out discretionary cash flow in years 1 through 5.
The current dividend per share: $1.50 x 20 million shares = $30 million
Assessing the discretionary cash flow, there is a larger amount at the beginning. If the firm gradually increases the dividend from $30 million to $50 million, with larger increases at the beginning, a discretionary cash deficit can be avoided. Payouts would be as follows:

Y1 = $35 / 20 = $1.75
Y2 = $39 / 20 = $1.95
Y3 = $43 / 20 = $2.15
Y4 = $48 / 20 = $2.40
Y5 = $50 / 20 = $2.50

These amounts stay in line with the discretionary cash flow, $215, as stated above.
Chapter 20
Question A2
Stephens Security has two financing alternatives: (1) A publicly placed $50 million bond issue. Issuance costs are $1 million, the bond has a 9% coupon paid semiannually, and the bond has a 20-year life. (2) A $50 million private placement with a large pension fund. Issuance costs are $500,000, the bond has a 9.25% annual coupon, and the bond has a 20-year life. Which alternative has the lower cost (annual percentage yield)?
According to the following calculations: Option 1 Option 2
Number of Periods (npr) 40 20
Coupon Payments (pmt) 2,250,000 4,625,000
Net Proceeds of Bond (PV) 49,000,000 49,500,000
Face Value of Bond (FV) 50,000,000 50,000,000

Yield to Maturity 4.61% Bond Equivalent Yield 9.43% 9.36%

Option 2 has the lower cost

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