Why is it financially unhealthy for an individual to maintain a large percentage of debt financing over a long period of time, that is, to be highly leveraged?
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Why is it financially unhealthy for an individual to
maintain a large percentage of debt financing over a
long period of time, that is, to be highly leveraged?
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- In 2011, El Paso Water Utilities (EPWU) issued bonds worth $9.125 million to improve the Van Buren dam in central El Paso and to finance three other drainage projects. The bonds were purchased by the Texas Water Development Board under the federal stimulus program wherein EPWU did not have to pay any dividend on the bonds. If the bond dividend rate would have been 4% per year, pay able quarterly, with a bond maturity date 18 years after issuance, what is the present worth of the dividend savings to EPWU rate payers? Assume the market interest rate is 6% per year.A plan for remodeling the downtown area of the city of Steubenville, Ohio, required the city to issue $5 million worth of general obligation bonds for infrastructure replacement. The bond interest rate was set at 6% per year, payable quarterly, with the principal repayment date 30 years into the future. The brokerage fees for the transactions amounted to $100,000. If the city received $4.6 million (before paying the brokerage fees) from the bond issue, (a) what interest rate (per quarter) did the investors require to purchase the bonds and (b) what are the nominal and effective rates of return per year to the investors?Inventoriable costs versus period costs. Each of the following cost items pertains to one of these companies: Best Buy (a merchandising-sector company) KitchenAid (a manufacturing-sector company) HughesNet (a service-sector company): A. Cost of phones and computers available for sale in Best Buy’s electronics department B. Electricity used to provide lighting for assembly-line workers at a KitchenAid manufacturing plant C. Depreciation on HughesNet satellite equipment used to provide its services D. Electricity used to provide lighting for Best Buy’s store aisles E. Wages for personnel responsible for quality testing of the KitchenAid products during the assembly process F. Salaries of Best Buy’s marketing personnel planning local-newspaper advertising campaigns G. Perrier mineral water purchased by HughesNet for consumption by its software engineers H. Salaries of HughesNet area sales managers I. Depreciation on vehicles used to transport KitchenAid products to retail stores 1.…
- Medzyme Pharmaceuticals has maintained a 50–50 D-E mix for capital investments. Equity capital has cost 11%; however, debt capital that has historically cost 9% is now 20% higher than that. If Medzyme does not want to exceed its historical weighted average cost of capital (WACC), and it is forced to go to a D-E mix of 75–25, the maximum acceptable cost of equity capital is closest to: (a) 7.6% (b) 9.2% (c) 9.8% (d ) 10.9%Two friends each invested $20,000 of their own (equity) funds. Stan, being more conservative, purchased utility and manufacturing corporation stocks. Theresa, being a risk taker, leveraged the $20,000 and purchased a $100,000 condo for rental property. Considering no taxes, dividends, or revenues, analyze these two purchases by doing the following for 1 year after the funds were invested. (a) Determine the year-end values of their equity funds if there was a 10% increase in the value of the stocks and the condo. (b) Determine the year-end values of their equity funds if there was a 10% decrease in the value of the stocks and the condo. (c) Use your results to explain why leverage can be financially risky.NextGen Wealth Ltd is a large manufacturing firm Ghana, that was created 20 years ago by Opanin Nsiah’s family. It was initially financed with an equity investment by the Opanin Nsiah family and ten other individuals. Over time, NextGen Wealth Ltd has obtained substantial loans from finance companies and commercial banks. The loans that NextGen Wealth Ltd has obtained from commercial banks stipulate that NextGen Wealth Ltd must receive the banks’ approval before pursuing any large projects. The interest rate on the loans is tied to market interest rates, and is adjusted every six months. Thus, NextGen Wealth Ltd.’s cost of obtaining funds is sensitive to interest rate movements. It has a credit line with a bank in case it suddenly needs to obtain funds for a temporary period. It has purchased Treasury securities that it could sell if it experiences any liquidity problems. NextGen Wealth Ltd has assets valued at about Gh₵50 million and generates sales of about Gh₵100 million per year.…
- To finance a new project costing $45 million, a company borrowed $31 million at 16% per year interest and used retained earnings valued at 12% per year for the remainder of the investment. What is the company’s weighted average cost of capital for the project?he most common form of zero-coupon bonds found in the United States is: a. AAA rated corporate bonds b. U.S. Treasury bills c. 30-year U.S. Treasury bonds d. Municipal bondsWhat is the weighted average cost of capital for a corporation that finances an expansion project using 40% retained earnings and 60% venture capital? Assume the interest rates are 10% for equity financing and 16% for debt financing
- Explain why it is generally preferred to do economic analyses on an aftertax basis, rather than on a before-tax basis.For each of the following factors, state if it will raise or lower the MARR: (a) Higher risk (b) Company wants to expand into a competitor’s area (c) Higher corporate taxes (d) Limited availability of capital (e) Increased market interest rates ( f ) Government imposition of price controlsChoose True or False for each of the following statements: 1. Sensitivity analysis is concerned with determining how much variation infinancial data, the decision maker can have to affect the economic decision. 2. Useful life is a period of time that yields the minimum equivalent uniformannual cost of owning and operating as asset. 3. Depreciation is a reduction in value of an asset, which reflects its actualusage during ownership. 4. In an optimistic estimation of MARR, we expect to see a lower MARR thanthat of pessimistic. 5. If one of extreme FW values, i.e., optimistic and pessimistic scenarios, ofan alternative is positive and another one is negative, a go-decision ismade without further analysis. 6. Recovery period refers to the depreciable life of an asset. 7. Spider plot is used to show the amount of changes on the value of morethan one factor at a time. 8. The book value at the end of useful life might not be equal to the salvagevalue when declining balance with switchover to…