Fundamentals of Financial Management, Concise Edition (MindTap Course List)
9th Edition
ISBN: 9781305635937
Author: Eugene F. Brigham, Joel F. Houston
Publisher: Cengage Learning
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Chapter 10, Problem 2DQ
Summary Introduction
To determine: The estimate for the
Introduction:
Cost of Equity:
The cost of equity refers to that return which a firm pays to the investors in return for the risk they take by investing the capital in this firm.
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Please see the attached diagram image. Please show how to solve this problem and please show all steps and formulas in Excel.
Based on the Capital Asset Pricing Model (CAPM) and the diagram below, what is the return of the stock if its beta is 1.2 or 0.8?
Your colleague collects the information in Table 1. Included are D/E ratios and estimated equity betas for firms similar to the take-over tarket, the target firm's Debt-to-Firm Value ratio, the target firm's tax rate, and the average YTM and coupon payments for their outstanding debt. Using this data, find the appropriate WACC for this investment decision.
Hint: Firm Value is Debt + Equity. Therefore, D/(D+E) = 0.2. Use this to solve for D/E, the target firm's leverage ratio.
D/E
Equity Beta
Target D/V
20%
Competitor 1
29.90%
2.68
Tax Rate
40%
Competitor 2
-7.60%
1.94
Average YTM
6%
Competitor 3
32.20%
1.92
Average Coupon
6.50%
Competitor 4
49.70%
1.12
Equity Market Risk Premium
5%
Competitor 5
21.70%
0.97
Treasury Note
4.93%
Competitor 6
34.30%
2.13
WACC
Competitor 7
28.50%
1.27
Competitor 8
-6.70%
1.01
Competitor 9
42.60%
0.98
Which statement is correct, all else held constant?
A. If you have both the dividend growth and the security market line's costs of equity, you should use the higher of the two estimates when computing WACC.
B. The aftertax cost of debt increases when the market price of a bond increases.
C. A decrease in a firm's WACC will increase the attractiveness of the firm's investment options.
D. Beta is used to compute the return on equity and the standard deviation is used to compute the return on preferred.
Chapter 10 Solutions
Fundamentals of Financial Management, Concise Edition (MindTap Course List)
Ch. 10 - How would each of the following scenarios affect a...Ch. 10 - Assume that the risk-free rate increases, but the...Ch. 10 - How should the capital structure weights used to...Ch. 10 - Suppose a firm estimates its WACC to be 10%....Ch. 10 - The WACC is a weighted average of the costs of...Ch. 10 - AFTER-TAX COST OF DEBT The Holmes Companys...Ch. 10 - COST OF PREFERRED STOCK Torch Industries can issue...Ch. 10 - COST OF COMMON EQUITY Pearson Motors has a target...Ch. 10 - COST OF EQUITY WITH AND WITHOUT FLOTATION Jarett ...Ch. 10 - PROJECT SELECTION Midwest Water Works estimates...
Ch. 10 - COST OF COMMON EQUITY The future earnings,...Ch. 10 - COST OF COMMON EQUITY WITH AND WITHOUT FLOTATION...Ch. 10 - COST OF COMMON EQUITY AND WACC Palencia Paints...Ch. 10 - WACC The Paulson Companys year-end balance sheet...Ch. 10 - WACC Olsen Outfitters Inc. believes that its...Ch. 10 - WACC AND PERCENTAGE OF DEBT FINANCING Hook...Ch. 10 - WACC Empire Electric Company (EEC) uses only debt...Ch. 10 - Prob. 13PCh. 10 - COST OF PREFERRED STOCK INCLUDING FLOTATION Travis...Ch. 10 - WACC AND COST OF COMMON EQUITY Kahn Inc. has a...Ch. 10 - COST OF COMMON EQUITY The Bouchard Companys EPS...Ch. 10 - CALCULATION OF g AND EPS Sidman Productss common...Ch. 10 - WACC AND OPTIMAL CAPITAL BUDGET Adamson...Ch. 10 - ADJUSTING COST OF CAPITAL FOR RISK Ziege Systems...Ch. 10 - WACC The following table gives Foust Company's...Ch. 10 - CALCULATING THE WACC Here is the condensed 2016...Ch. 10 - COLEMAN TECHNOLOGIES INC. COST OF CAPITAL Coleman...Ch. 10 - As a first step, we need to estimate what...Ch. 10 - Prob. 2DQCh. 10 - Next, we need to calculate MMMs cost of debt. We...
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