FNCE 370 Overview of Corporate Finance Sample Examination (Solutions) Part I: Multiple Choice 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. 21. 22. 23. 24. 25. c b b e a c d b b d d d c c a c b b c e c d b e a FNCE 370 Sample Examination (Solutions) 1/8 May 2006 Part II: Written Response 26. Agency problems are said to be inherent in the corporate form of an organization. Why do you think this is the case? Do you think agency problems arise in a sole proprietorship or a partnership? What steps would you take to reduce agency problems in a so-called typical corporation? Suggested Answer (See pp. 10–15 in the textbook) Agency problems are inherent in the corporate form of an organization because of the …show more content…
a. If the Grim Reaper Corporation requires a 12% return on investment, should the cemetery business be started? b. The Grim Reaper Corporation is unsure about the assumption of a 6% growth rate in its cash flows. At what constant growth rate would the corporation just break even, if it still requires a 12% return on investment? Suggested Answers Information given: Net Cash Inflow, year 1 = $25,000 g = 0.06 to infinity Initial Investment = $400,000 a. r = 0.12 ∞ NPV = −400,000 + ∑ t =1 25,000 × (1 + 0.06) t −1 (1 + 0.12) t ⎞ ⎛ ⎜ 25,000 1 ⎟⎟ = −400,000 + ⎜ × 1.06 ⎟ ⎜ 1.12 1− ⎟ ⎜ 1.12 ⎠ ⎝ = −400,000 + 416,666.67 = $16,666.67 Since NPV > 0, the cemetery business is worth starting. FNCE 370 Sample Examination (Solutions) 4/8 May 2006 Suggested Answers (question 26 continued) b. Let ∞ NPV = −400,000 + ∑ t =1 25,000 × (1 + r ) t −1 =0 (1 + 0.12) t Then solve for r as follows: ⎛ ⎞ ⎜ 25, 000 1 ⎟ 400, 000 = ⎜ × ⎟ ⎜⎜ 1.12 1 − 1 + r ⎟⎟ 1.12 ⎠ ⎝ r = 0.0575 Thus, at a 5.75% constant growth rate, the corporation would just break even. FNCE 370 Sample Examination (Solutions) 5/8 May 2006 30. ABC Co. and XYZ Co. are identical companies in all respects, except their capital structure. ABC Co. is all-equity financed with $250,000 in stock. XYZ Co. uses both stock and perpetual debt; its stock is worth $125,000, and the interest rate on its debt is 10%. Both firms expect EBIT to be $37,500, and their shares are trading at $20 per share.
3. Geoff has a written agreement with Huck. To accomplish the objectives of this relationship, Geoff's authority can
a. Determine the value of the firm at the above debt levels. What level of debt should the firm
the partners to come up with somewhat of a middle ground. I see too many good business ruined
1. Walmart has a limited number of day-after Thanksgiving Day special items on sale at prices well below their
(10 points) Banana, Inc. has had debt with market value of $0.5 million that has paid a 5% coupon and has had an expiration date that is far, far away. The expected annual earnings before interest and taxes for the firm are $1 million and the firm has not grown, nor does it have plans for any growth. The firm however has just raised more equity to retire all its debt. If the required rate of return to equity-holders (after the capital structure change) is now 10%, what is the market value of the firm? Assume there are no taxes. (Enter just the number without the $ sign or a comma; round to the nearest whole dollar.) Answer for Question 8
When Josh was asked, during a bankruptcy proceeding, whether he had ever been sued, he responded that he had not. In fact, he had once been sued for intentional infliction of emotional distress. That suit had been settled many years earlier and had no financial impact on Josh today. Josh’s debts were discharged in bankruptcy. Creditors want the discharge revoked because of Josh’s lie.
In what ways may an agency be created? When the agent would lose his right of remuneration?
Thus the WAVG Cost of Debt (including L/T debt and preferred stock) = rd = 8.633%
In Scenario A, the Debt would remain at 0 for good. This results in a D/V ratio of 0 which gives us a WACC of 9.21. Using the WACC to derive the Enterprise value of the company, it is found to be $3.043B. Subtracting the debt of $1.25B, we have a Value of Equity of $1.79B. Subtracting the $765M that is
Market value proportions of: Debt = $1,147,200 / $4,897,200 = 23.4% Pref. Share = $1,250,000 / $4,897,200 = 25.5% Common equity = $2,500,000 / $4,897,200 = 51.1%
The advantages to the sole proprietorship are single control over the business and its decisions, easy to start up, less regulations and paperwork burden that the other types of business. The disadvantages are unlimited liability for their company debts and actions. The law does not recognize any distinctions between the owner’s business assets and personal assets. Banks are very skeptical about lending to these types business because there is only one person to hold liable for repaying the debt.
(10 points) Mango, Inc. has had debt with market value of $1 million that has paid a 6% coupon and has had an expiration date that is far, far away. The expected annual earnings before interest and taxes for the firm are $2 million and the firm has not grown, nor does it have plans for any growth. The firm however has just raised more equity to retire all its debt. If the required rate of return to equity-holders (after the capital structure change) is now 20%, what is the market value of the firm? Assume there are no taxes. (Enter just the number without the $ sign or a comma; round to the nearest whole dollar.)
Agency Theory is tied up with analyzing and resolving any current issues that exist between their management team and owners. In Agency theory, way of think may
As explained by Schelker (2013), the agency problem between the owners and the management of a firm is at the heart of the corporate governance literature. Hence, there is a need for a