Real Options Jet Black is an international conglomerate with a petroleum division and is currently competing in an auction to win the right to drill for crude oil on a large piece of land in one year. The current market price of crude oil is $103 per barrel, and the land is believed to contain 435,000 barrels of oil. If found, the oil would cost $75 million to extract. Treasury bills that mature in one year yield a continuously compounded interest rate of 4 percent, and the standard deviation of the returns on the price of crude oil is 50 percent. Use the Black-Scholes model to calculate the maximum bid that the company should be willing to make at the auction.
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Corporate Finance (The Mcgraw-hill/Irwin Series in Finance Insurance and Real Estate)
- Southern Tours is considering acquiring Holiday Vacations. Management believes Holiday Vacations can generate cash flows of $185,000, $225,000, and $345,000 over the next three years, respectively. After that time, they feel the business will be worthless. If the desired rate of return is 12 percent, what are the maximum Southern Tours should pay today to acquire Holiday Vacations? a. 503,098 b. 538,615 c. $545,920 d. $590,110arrow_forwardMarko, Inc., is considering the purchase of ABC Co. Marko believes that ABC Co. can generate cash flows of $5,800, $10,800, and $17,000 over the next three years, respectively. After that time, they feel the business will be worthless. Marko has determined that a rate of return of 12 percent is applicable to this potential purchase. What is Marko willing to pay today to buy ABC Co.?arrow_forwardFirm Valuation Schultz Industries is considering the purchase of Arras Manufacturing. Arras is currently a supplier for Schultz, and the acquisition would allow Schultz to better control its material supply. The current cash flow from assets for Arras is $8.1 million. The cash flows are expected to grow at 5 percent for the next five years before leveling off to 2 percent for the indefinite future. The cost of capital for Schultz and Arras is 9 percent and 7 percent, respectively. Arras currently has 3 million shares of stock outstanding and $25 million in debt outstanding. What is the maximum price per share Schultz should pay for Arras?arrow_forward
- Southern Tours is considering acquiring Holiday Vacations. Management believes Holiday Vacations can generate cash flows of $218,000, $224,000, and $235,000 over the next three years, respectively. After that time, they feel the business will be worthless. If the desired rate of return is 13.6 percent, what is the maximum Southern Tours should pay today to acquire Holiday Vacations? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)arrow_forwardPenn Corp. is analyzing the possible acquisition of Teller Company. Both firms have no debt. Penn believes the acquisition will increase its total aftertax annual cash flows by $3 million indefinitely. The current market value of Teller is $49 million, and that of Penn is $85 million. The appropriate discount rate for the incremental cash flows is 10 percent. Penn is trying to decide whether it should offer 40 percent of its stock or $66 million in cash to Teller's shareholders. a. What is the cost of each alternative? (Enter your answers in dollars, not millions of dollars, e.g., 1,234,567.) Cash cost $66,000,000 Equity cost b. What is the NPV of each alternative? (Enter your answers in dollars, not millions of dollars, e.g., 1,234,567.) NPV cash NPV stockarrow_forwardHastings Corporation is interested in acquiring Vandell Corporation. Vandell has 1 million shares outstanding and a target capital structure consisting of 30% debt; its beta is 1.60 (given its target capital structure). Vandell has $9.71 million in debt that trades at par and pays an 7.8% interest rate. Vandell’s free cash flow (FCF0) is $1 million per year and is expected to grow at a constant rate of 5% a year. Both Vandell and Hastings pay a 30% combined federal and state tax rate. The risk-free rate of interest is 4% and the market risk premium is 6%. Hastings Corporation estimates that if it acquires Vandell Corporation, synergies will cause Vandell’s free cash flows to be $2.6 million, $2.7 million, $3.3 million, and $3.71 million at Years 1 through 4, respectively, after which the free cash flows will grow at a constant 5% rate. Hastings plans to assume Vandell’s $9.71 million in debt (which has an 7.8% interest rate) and raise additional debt financing at the time of the…arrow_forward
- Companies invest in expansion projects with the expectation of increasing the earnings of their businesses. Consider the case of IQMetrics Corporation. IQMetrics is proceeding with a new expansion project that is anticipated to have a four-year life span. The project calls for the purchase of a building for $5 million and equipment valued at $3 million. IQMetrics’s corporate tax rate is 30%, and its discount rate is 10%. Upon completion of the project, the company expects the salvage values to be $4 million and $2 million, respectively. The capital cost allowance (CCA) rate for the asset classes as given by the Canada Revenue Agency (CRA) are buildings, 4%; equipment, 20%; and manufacturing assets, 30%. Calculate the present value for the total tax shield. The present value isarrow_forwardDefense Electronics Corporation is considering building an overseas manufacturingfacility to produce radar detection systems. As a consultant to DEC, you have the contractto determine the appropriate discount rate for evaluating this project.Current information regarding DEC includes:Debt: 25,000 bonds outstanding, each with a coupon rate of 6.5% paid semi-annually, parvalue of $1,000, maturity of 20 years, and current value of 96% of par.Common Stock: 400,000 shares outstanding with a current value of $89/share. An annualdividend of $4.74 has just been paid, and dividends are expected to grow by 9% annuallyinto the foreseeable future.Preferred Stock: 35,000 shares of 6.5% stock with a par value of $100/share, and acurrent value of $99/share.Tax rate: DEC’s combined tax rate is 34%.Other liabilities: DEC has the usual accounts payable and accruals on its balance sheet,but does not regularly utilize any interest-bearing debt other than the bonds describedabove.Risk Adjustment: Since the…arrow_forwardAn acquiring firm is analyzing the possible acquisition of a target firm. Both firms have no debt. The acquiring firm believes the acquisition of the target firm will increase its total after-tax annual cash flow by $3.4 million per year forever. The appropriate discount rate for the incremental cash flows is 11 percent. The current market value of the target firm is $95 million, and the current market value of the acquiring firm is $160 million. if the acquiring firm pays $110 million in cash to the target firms shareholders. What is the net present value of the acquisition?arrow_forward
- Energy Plus Limited (EP) is operating in the booming energy sector. The company recognized that to stay competitive it must implement projects which would reduce the cost of products to its customers. EP’s board of directors approved the recommendation to finance the project by issuing new debt. On January 1, 2014, EP issued new bonds which will mature on December 31, 2038. The bonds have a par value of $1,000 and a coupon rate of 12%. Coupon payments are made semi-annually. a) What would be the value of the bonds on December 31, 2018, if the interest rates had risen to 16%? Based on the price of the bond, how would you classify the bond? b) What would be their value on June 30, 2026, if interest rates had fallen to 8%? Based on the price of the bond, how would you classify the bond? c) If the bonds had a value of $860.00 on June 30, 2024, what would be their yield to maturity on that date?arrow_forwardMelissa’s Kitchen is considering acquiring Takeshi’s Takeout Corp., a small local restaurant chain. Expected net cash flows from the acquisition for the first four years of the post-merger period are: Year 1 $350,000 Year 2 $400,000 Year 3 $475,000 Year 4 $550,000 After four years, the net cash flows are expected to grow at a constant rate of 3 percent per year. If we know the following information, what is the most Melissa’s Kitchen Should pay for Takeshi’s Takeout? Melissa’s Kitchen Borrowing costs 5% above the current long-term Treasury Bond rate 10-year T-Bond Rate 2/8/23 = 3.64% Beta 2.4 Debt $4 million Stock 500,000 shares outstanding - $20 per share on 2/8/23 Tax Rate 21 percentarrow_forwardHastings Corporation is interested in acquiring Vandell Corporation. Vandell has 1.5 million shares outstanding and a target capital structure consisting of 30% debt; its beta is 1.60 (given its target capital structure). Vandell has $8.57 million in debt that trades at par and pays a 7.4% interest rate. Vandell’s free cash flow (FCF0) is $1 million per year and is expected to grow at a constant rate of 5% a year. Vandell pays a 25% combined federal-plus-state tax rate, the same rate paid by Hastings. The risk-free rate of interest is 4%, and the market risk premium is 6%. Hasting’s first step is to estimate the current intrinsic value of Vandell.arrow_forward
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