Intermediate Financial Management (MindTap Course List)
12th Edition
ISBN: 9781285850030
Author: Eugene F. Brigham, Phillip R. Daves
Publisher: Cengage Learning
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Chapter 11, Problem 3Q
Summary Introduction
To discuss: The way the given factors has an effect on the cost of debt of the firm,
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Which of the following steps is not required when estimating a firm’s weighted average cost of capital?a. Evaluate the firm’s capital structure and determine the relative weight of each component in the mix.b. Estimate the opportunity cost of each of the sources of financing and adjust it for the effects of taxes where appropriate.c. Subtract the weighting of preferred stock and reallocate the weighting to equity and debt.d. Calculate the weighted average cost of capital by computing a weighted average of the estimated after-tax costs of the various capital sources used by the firm.e. These are all steps taken to calculate the weighted average cost of capital.
According to MM propositions, which of the following statements best describes the consequence of increasing debt-to-value ratio for a firm?
Group of answer choices
The weighted average cost of capital can decrease.
The weighted average cost of capital can increase.
The cost of equity capital can decrease.
The weighted average cost of capital must not stay constant.
How would each of the following scenarios affect a firm's cost of debt, r d (l - t), t=tax rate; its cost of equity, rs; and its WACC? Indicate with an increase (I), a decreease (D), or no change (N) whether the factor would raise, lower, or have an indeterminate effect on the item in question. Assume for each answer that other things are held constant, even though in some instances this would probably not be true.
rd (1-t)
rs
WACC
4) The dividend payout ratio is increased.
5) The firm expands into a risky new area.
6) Investors become more risk-averse.
7) The firm is an electric utility with a large investment innuclear plants. Several states are considering a ban on nuclear power generation.
Chapter 11 Solutions
Intermediate Financial Management (MindTap Course List)
Ch. 11 - Define each of the following terms:
Weighted...Ch. 11 - Prob. 2QCh. 11 - Prob. 3QCh. 11 - Distinguish between beta (i.e., market) risk,...Ch. 11 - Suppose a firm estimates its overall cost of...Ch. 11 - 11-1 After-Tax Cost of Debt
Calculate the...Ch. 11 - Prob. 2PCh. 11 - Cost of Preferred Stock
Duggins Veterinary...Ch. 11 - Prob. 4PCh. 11 - Prob. 5P
Ch. 11 - Prob. 6PCh. 11 - Prob. 7PCh. 11 - Prob. 8PCh. 11 - Bond Yield and After-Tax Cost of Debt A companys...Ch. 11 - Prob. 10PCh. 11 - Prob. 11PCh. 11 - Calculation of gL and EPS Spencer Suppliess stock...Ch. 11 - The Cost of Equity and Flotation Costs
Messman...Ch. 11 - Prob. 14PCh. 11 - WACC Estimation
On January 1, the total market...Ch. 11 - Prob. 16PCh. 11 - During the last few years, Jana Industries has...Ch. 11 - What is the market interest rate on Jana’s debt,...Ch. 11 - Prob. 3MCCh. 11 - Prob. 4MCCh. 11 - Prob. 5MCCh. 11 - Prob. 6MCCh. 11 - Prob. 7MCCh. 11 - Prob. 8MCCh. 11 - Prob. 9MCCh. 11 - Prob. 10MCCh. 11 - What procedures can be used to estimate the...Ch. 11 - Prob. 12MCCh. 11 - Prob. 13MCCh. 11 - Prob. 14MCCh. 11 - What four common mistakes in estimating the WACC...
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- Define each of the following terms: Weighted average cost of capital, WACC; after-tax cost of debt, rd(1 – T); after-tax cost of short-term debt, rstd(1 – T) Cost of preferred stock, rps; cost of common equity (or cost of common stock), rs Target capital structure Flotation cost, F; cost of new external common equity, rearrow_forwardThe cost of equity is _______. A. the interest associated with debt B. the rate of return required by investors to incentivize them to invest in a company C. the weighted average cost of capital D. equal to the amount of asset turnoverarrow_forwardWhat happens to ROE for Firm U and Firm L if EBIT falls to $1,600? What happens if EBIT falls to $1,200? What is the after-tax cost of debt? What does this imply about the impact of leverage on risk and return?arrow_forward
- How would each of the following scenarios affect a firm's cost of debt, r d (l - t), t=tax rate; its cost of equity, rs; and its WACC? Indicate with an increase (I), a decreease (D), or no change (N) whether the factor would raise, lower, or have an indeterminate effect on the item in question. Assume for each answer that other things are held constant, even though in some instances this would probably not be true. rd (1-t) rs WACC 1) The corporate tax rate is lowered. 2) The Federal Reserve tightens credit. 3) The firm uses more debt; that is, it increases its debt ratio 4) The dividend payout ratio is increased. 5) The firm expands into a risky new area. 6) Investors become more risk-averse. 7) The firm is an electric utility with a large investment innuclear plants. Several states are considering a ban on nuclear power generation.arrow_forwardAccording to the simplified Brennan Lally CAPM, what is the cost of equity for A Ltd? Using the cost of debt, cost of equity, market value of debt and market value of equity given in the table given, what is the weighted average cost of capital (WACC) for B Ltd? Thank you!arrow_forwardUse the following information to answer the following question(s). a) What is the percentage of common stock in Sumitomo's weighted average cost of capital? b) What is the percentage of debt in Sumitomo's weighted average cost of capital? c) What is the percentage of preferred stock in Sumitomo's weighted average cost of capital? d) What is the total capital that should be used in computing the weights for Sumitomo's WACC?arrow_forward
- How would each of the following scenarios affect a firm’s cost of debt, rd( 1 − T); itscost of equity, rs; and its WACC? Indicate with a plus (+), a minus (−), or a zero (0)whether the factor would raise, lower, or have an indeterminate effect on the item inquestion. Assume for each answer that other things are held constant, even though insome instances this would probably not be true. Bo prepared to justify your answerbut recognize that several of the parts have no single correct answer. These questionsare designed to stimulate thought and discussion.arrow_forwardThe WACC is a weighted average of the costs of debt, preferred stock, and common equity. How should the capital structure weights used to calculate the WACC be determined? Would the WACC depend in any way on the size of the capital budget? How might dividend policy affect WACC? Explainarrow_forwardWhich one of the following factors would likely cause a firm to increase its use of debt financing as measured by the debt to total capital ratio? A.Increased economic uncertainty. B.An increase in the degree of operating leverage. C.An increase in the corporate income tax rate. D.An increase in the price-earnings ratio.arrow_forward
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