Your plans to invest $200 million in two (2) projects. The first project you are contemplating is to a restaurant and sports bar and the second is to invest in a hardware store. The problem is that you have never been one to stay with and project for too long, so you figure that your time frame is five years. Your target capital structure is 40% debt, 10% preferred stock and 5-% common stock. The interest rate on new debt securities is 8, the yield on preferred stock is 10%, the cost of retained earnings is 15% and the tax rate is 30%. i) Compute the project’s cost of capital

Your plans to invest $200 million in two (2) projects. The first project you are contemplating is to a restaurant and sports bar and the second is to invest in a hardware store. The problem is that you have never been one to stay with and project for too long, so you figure that your time frame is five years. Your target capital structure is 40% debt, 10% preferred stock and 5-% common stock. The interest rate on new debt securities is 8, the yield on preferred stock is 10%, the cost of retained earnings is 15% and the tax rate is 30%. i) Compute the project’s cost of capital

Corporate Fin Focused Approach

5th Edition

ISBN:9781285660516

Author:EHRHARDT

Publisher:EHRHARDT

Chapter11: Cash Flow Estimation And Risk Analysis

Section: Chapter Questions

Problem 8P

See similar textbooks

Similar questions

Wansley Lumber is considering the purchase of a paper company, which would require an initial investment of $300 million. Wansley estimates that the paper company would provide net cash flows of $40 million at the end of each of the next 20 years. The cost of capital for the paper company is 13%. Should Wansley purchase the paper company? Wansley realizes that the cash flows in Years 1 to 20 might be $30 million per year or $50 million per year, with a 50% probability of each outcome. Because of the nature of the purchase contract, Wansley can sell the company 2 years after purchase (at Year 2 in this case) for $280 million if it no longer wants to own it. Given this additional information, does decision-tree analysis indicate that it makes sense to purchase the paper company? Again, assume that all cash flows are discounted at 13%. Wansley can wait for 1 year and find out whether the cash flows will be $30 million per year or $50 million per year before deciding to purchase the company. Because of the nature of the purchase contract, if it waits to purchase, Wansley can no longer sell the company 2 years after purchase. Given this additional information, does decision-tree analysis indicate that it makes sense to purchase the paper company? If so, when? Again, assume that all cash flows are discounted at 13%.
Assume you have just been hired as a business manager of PizzaPalace, a regional pizza restaurant chain. The companys EBIT was 120 million last year and is not expected to grow. PizzaPalace is in the 25% state-plus-federal tax bracket, the risk-free rate is 6 percent, and the market risk premium is 6 percent. The firm is currently financed with all equity, and it has 10 million shares outstanding. When you took your corporate finance course, your instructor stated that most firms owners would be financially better off if the firms used some debt. When you suggested this to your new boss, he encouraged you to pursue the idea. If the company were to recapitalize, then debt would be issued, and the funds received would be used to repurchase stock. As a first step, assume that you obtained from the firms investment banker the following estimated costs of debt for the firm at different capital structures: a. Using the free cash flow valuation model, show the only avenues by which capital structure can affect value.
Your plans to invest $200 million in two (2) projects. The first project you are contemplating is to a restaurant and sports bar and the second is to invest in a hardware store. The problem is that you have never been one to stay with and project for too long, so you figure that your time frame is five years. Your target capital structure is 40% debt, 10% preferred stock and 5-% common stock. The interest rate on new debt securities is 8, the yield on preferred stock is 10%, the cost of retained earnings is 15% and the tax rate is 30%. i) Compute the project’s cost of capital. NB. Do not use excel to show answers, show all working to show how we arrive at the answer.
CorpCo is a large manufacturing firm with many stockholders. The firm is considering investing $300,000 for a period of five years. Expected earnings are $50,000 in year 1, $60,000 in year 2, $75,000 in year 3 and $90,000 in years 4 and 5. Should the firm decide to invest, if the interest rate is 8%?
Bedrock Company has $70 million in debt and $30 million in equity. The debt matures in1 year and has a 10% interest rate, so the company is promising to pay back $77 million toits debtholders 1 year from now.The company is considering two possible investments, each of which will require an up-front cost of $100 million. Each investment will last for 1 year, and the payoff from each investment depends on the strength of the overall economy. There is a 50% chance that theeconomy will be weak and a 50% chance it will be strong. Here are the expected payoffs (all dollars are in millions) from the two investments: Note that the two projects have the same expected payoff, but Project H has higher risk. Thedebtholders always get paid first and the stockholders receive any money that is availableafter the debtholders have been paid.Assume that if the company doesn’t have enough funds to pay off its debtholders 1 yearfrom now, then Bedrock will declare bankruptcy. If bankruptcy is declared,…
An engineering team for a corporation has decided to move forward with a project that will cost $82 million and now they have to obtain the funding for this. Since they don't have $82 million in retained earnings they need to raise the capital by other means. The finance department for the company has decided the best way to raise funds is a combination of issuing stocks, getting a bank loan, and issuing bonds. They plan to sell $50 million worth of stocks. The stockholders expect a rate of return of 12% The company will get a bank loan at an interest rate of 10% worth $12 million. The company will also sell bonds worth $20 million at a rate of 6% compounded yearly. Determine the before tax cost of capital for the company. Thus, calculate the Weighted Average Cost of Capital or WACC ?
You are an adviser to an investor who had $2,000,000 in his accountand wants to invest it in oil business.He had an idea of 1month, 3months, 6months and 1year investmentplan respectively.He wishes to invest 27% of the funds for the 3 months plan, 24% onthe 6 months plan, 21% on the 1 year plan and 28% for the 1 monthplan.He wants a return of at least 20% on any of this investment plan.The risks of achieving this target are; 94% for plan 1 , 96% for Plan 2;97% for Plan 3: and 98% for Plan 4.Please advise the investor on the appropriate investment plan toinvest in
Sam Jones has an engineering firm. He wants to build a new headquarters building. The building will cost $1,500,000. He will finance the entire building himself, even though bank financing is at prime plus 2 percent. The prime lending rate is currently 8.5 percent. Sam will withdraw the money for the building from his mutual fund account where he has earned 13 percent for the last ten years. What is Sam's weighted average cost of capital?
The Norris Company is looking to fund a new project with capital from both bondholders and shareholders. The company will collect 5,000 from bondholders demanding a 7.5% interest rate, with the other 50% of financing coming from shareholders. The company predicts there is a 55% chance the project will be a failure. The value of the project to the firm if the project is a success is $15,000, while the overall expected value of the project to the firm is $9,280. What are the expected returns for each investor?
You are a consultant who has been hired to evaluate a new product line for Markum Enterprises. The upfront investment required to launch the product line is $7 million. The product will generate free cash flow of $0.76 million the first year, and this free cash flow is expected to grow at a rate of 6% per year. Markum has an equity cost of capital of 10.9%, a debt cost of capital of 5.35%, and a tax rate of 42%. Markum maintains a debt-equity ratio of 0.40. What is the NPV of the new product line (including any tax shields from leverage)? (Round to two decimalplaces.) How much debt will Markum initially take on as a result of launching this product line? (Round to two decimalplaces.) How much of the product line's value is attributable to the present value of interest tax shields? (Round to two decimalplaces.)
You are a consultant who has been hired to evaluate a new product line for Markum Enterprises. The upfront investment required to launch the product line is $8 million. The product will generate free cash flow of $0.70 million the first year, and this free cash flow is expected to grow at a rate of 6% per year. Markum has an equity cost of capital of 10.8%, a debt cost of capital of 6.38%, and a tax rate of 25%. Markum maintains a debt-equity ratio of 0.50. a. What is the NPV of the new product line (including any tax shields from leverage)? b. How much debt will Markum initially take on as a result of launching this product line? c. How much of the product line's value is attributable to the present value of interest tax shields? Question content area bottom Part 1 a. What is the NPV of the new product line (including any tax shields from leverage)? The NPV of the new product line is million. (Round to two decimal places.) Part 2 b. How much debt will…
You are a consultant who has been hired to evaluate a new product line for Markum Enterprises. The upfront investment required to launch the product line is $8 million. The product will generate free cash flow of $0.70 million the first year, and this free cash flow is expected to grow at a rate of 6% per year. Markum has an equity cost of capital of 10.8%, a debt cost of capital of 6.38%, and a tax rate of 25%. Markum maintains a debt-equity ratio of 0.50. a. What is the NPV of the new product line (including any tax shields from leverage)? b. How much debt will Markum initially take on as a result of launching this product line? c. How much of the product line's value is attributable to the present value of interest tax shields? Question content area bottom Part 1 a. What is the NPV of the new product line (including any tax shields from leverage)? The NPV of the new product line is $enter your response here million. (Round to two decimal places.)