Intermediate Finance Midterm Winter 2010

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UNIVERSITY OF TORONTO at Scarborough Management MGTC09 (Intermediate Finance) Midterm Exam Total Marks: 100 ASSIGNMENT 1 Date: February 24, 2010 Time: 5:10-7 p.m. Due Date : June 3, 2010 by 11 am Prof. Syed W. Ahmed QUESTION NO. MAX. MARKS MARKS OBTAINED 1 20 __________________ 2 25 __________________ 3 25 __________________ 4 30 __________________ 100 __________________ TOTAL MARKS QUESTION 1: Ellesmere International has 1 million shares of common stock outstanding. The current share price is $25 per share. The most recent dividend was $1 and the growth rate is 5%. Ellesmere also has a bond issue outstanding, which is maturing in 25 years, has a face value of…show more content…
It wants to know if replacing some of the existing equity by issuing more debt will increase the value of the firm. If leverage increases, interest rate on the total debt will increase. The Company is considering the following total debt levels. Total Debt Cost of Cost of (in millions) debt (%) equity (%) $7.5 7 10.5 $10 8 12.5 a. Determine the value of the firm at the above debt levels. What level of debt should the firm choose? b. Calculate the new equilibrium stock prices at the above debt levels. How many shares company should repurchase? How many shares will remain outstanding? c. Determine the firm’s EPS at the above debt levels. If EPS goes up with the higher debt level, should the firm increases its total debt level? QUESTION 4: Usman Aeronautica Limited (UAL) is considering replacing the old widget maker with a new one at their widget making plant in Sudbury. The old widget maker has a current market value of $1,000,000. The new widget maker will generate incremental pre tax cash flow of $2,000,000 per year for 10 years and will have zero salvage value after 10 years of use. The widget maker will be depreciated straight line. UAL is in 40% tax bracket, it has debt/equity ratio of 1, cost of debt of 8%, and cost of equity of 15%. Treasury bills are yielding 3% rate of return. a. What is the maximum price XYZ should be willing to pay for the widget maker if it is all

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