Fundamentals of Corporate Finance
11th Edition
ISBN: 9780077861704
Author: Stephen A. Ross Franco Modigliani Professor of Financial Economics Professor, Randolph W Westerfield Robert R. Dockson Deans Chair in Bus. Admin., Bradford D Jordan Professor
Publisher: McGraw-Hill Education
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Textbook Question
Chapter 3, Problem 22QP
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FIN320
(DuPont analysis) Garwryk, Inc., which is financed with debt and equity, presently has a debt ratio of percent. What is the firm's equity multiplier? How is the equity multiplier related to the firm's use of debt financing (i.e., if the firm increased its use of debt financing would this increase or decrease its equity multiplier)? Explain.
What is the firm's equity multiplier?
The equity multiplier is given by: equity multiplier = 1/1-DEBT RATIO
The equity multiplier is___. (Round to two decimal places.)
How is the equity multiplier related to the firm's use of debt financing (i.e., if the firm increased its use of debt financing would this increase or decrease its equity multiplier)? Explain. (Select the best choice below.)
A.
If the company decreases its debt financing it will increase its debt ratio, therefore it will increase its equity multiplier.
B.
If the company increases its debt financing it will increase its debt ratio, therefore it will…
FINA's business risk (Ru) is 9% in the industry. The debt-to-equity ratio is 0.4. The cost of debt is 3%. The tax rate is 20%. What is the required return of equity (Re)?
5
Dye Industries currently uses no debt, but its new CFO is considering changing the capital structure to 40.0% debt (wd) by issuing bonds and using the proceeds to repurchase and retire common shares so the percentage of common equity in the capital structure (wc) = 1 – wd. Given the data shown below, by how much would this recapitalization change the firm's cost of equity, i.e., what is rL - rU?Risk-free rate, rRF 6.00% Tax rate, T 30%Market risk premium, RPM 4.00% Current wd 0%Current beta, bU 1.15 Target wd 40%
Group of answer choices
1.66%
2.15%
2.23%
2.02%
2.45%
1.84%
Chapter 3 Solutions
Fundamentals of Corporate Finance
Ch. 3.1 - Prob. 3.1ACQCh. 3.1 - Prob. 3.1BCQCh. 3.2 - Prob. 3.2ACQCh. 3.2 - Name two types of standardized statements and...Ch. 3.3 - What are the five groups of ratios? Give two or...Ch. 3.3 - Given the total debt ratio, what other two ratios...Ch. 3.3 - Turnover ratios all have one of two figures as the...Ch. 3.3 - Profitability ratios all have the same figure in...Ch. 3.4 - Return on assets, or ROA, can be expressed as the...Ch. 3.4 - Return on equity, or ROE, can be expressed as the...
Ch. 3.5 - Prob. 3.5ACQCh. 3.5 - Prob. 3.5BCQCh. 3.5 - Prob. 3.5CCQCh. 3.5 - Prob. 3.5DCQCh. 3 - Prob. 3.1CTFCh. 3 - Prob. 3.2CTFCh. 3 - What is the correct formula for computing the...Ch. 3 - Prob. 3.5CTFCh. 3 - Current Ratio [LO2] What effect would the...Ch. 3 - Current Ratio and Quick Ratio [LO2] In recent...Ch. 3 - Prob. 3CRCTCh. 3 - Prob. 4CRCTCh. 3 - Prob. 5CRCTCh. 3 - Prob. 6CRCTCh. 3 - Prob. 7CRCTCh. 3 - Prob. 8CRCTCh. 3 - Prob. 9CRCTCh. 3 - Industry-Specific Ratios [LO2] There are many ways...Ch. 3 - Prob. 11CRCTCh. 3 - Prob. 12CRCTCh. 3 - Calculating Liquidity Ratios [LO2] SDJ, Inc., has...Ch. 3 - Calculating Profitability Ratios [LO2] Shelton,...Ch. 3 - Calculating the Average Collection Period [LO2]...Ch. 3 - Calculating Inventory Turnover [LO2] The Green...Ch. 3 - Calculating Leverage Ratios [LO2] Levine, Inc.,...Ch. 3 - Calculating Market Value Ratios [LO2] Makers Corp....Ch. 3 - DuPont Identity [LO4] If Roten Rooters, Inc., has...Ch. 3 - DuPont Identity [LO4] Zombie Corp. has a profit...Ch. 3 - Prob. 9QPCh. 3 - Prob. 10QPCh. 3 - Prob. 11QPCh. 3 - Equity Multiplier and Return on Equity [LO3] SME...Ch. 3 - Just Dew It Corporation reports the following...Ch. 3 - Prob. 14QPCh. 3 - Prob. 15QPCh. 3 - Prob. 16QPCh. 3 - Calculating Financial Ratios [LO2] Based on the...Ch. 3 - Using the DuPont Identity [LO3] Y3K, Inc., has...Ch. 3 - Days Sales in Receivables [LO2] A company has net...Ch. 3 - Ratios and Fixed Assets [LO2] The Caughlin Company...Ch. 3 - Profit Margin [LO4] In response to complaints...Ch. 3 - Return on Equity [LO2] Firm A and Firm B have...Ch. 3 - Calculating the Cash Coverage Ratio [LO2] Ugh...Ch. 3 - Cost of Goods Sold [LO2] W B Corp. has current...Ch. 3 - Prob. 25QPCh. 3 - Some recent financial statements for Smolira Golf...Ch. 3 - DuPont Identity [LO3] Construct the DuPont...Ch. 3 - Prob. 28QPCh. 3 - Market Value Ratios [LO2] Smolira Golf Corp. has...Ch. 3 - Tobins Q [LO2] What is Tobins Q for Smolira Golf?...Ch. 3 - Using the financial statements provided for SS...Ch. 3 - Mark and Todd agree that a ratio analysis can...Ch. 3 - Compare the performance of SS Air to the industry....
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- Q1. Consider an all-equity firm that is contemplating going into debt. The market value of equity is calculated as Free Cash Flow/required rate of return. Current Proposed Assets $10,000 $18,000 Debt $0 $8,000 Equity $10,000 $10,000 Debt/Equity ratio 0.00 1.00 Interest rate n/a 7% Shares outstanding 500 500 Share price $20 $20 (b) If the company adds the proposed amount of debt and EBIT is expected to expand proportionally, fill out the table in (a) after the debt is issued.arrow_forwardQ1. Consider an all-equity firm that is contemplating going into debt. The market value of equity is calculated as Free Cash Flow/required rate of return. Current Proposed Assets $10,000 $18,000 Debt $0 $8,000 Equity $10,000 $10,000 Debt/Equity ratio 0.00 1.00 Interest rate n/a 7% Shares outstanding 500 500 Share price $20 $20 (e ) If the company stock price goes up by 2% from announcing it is adding debt to expand the business, what effect does this have on the WACC?arrow_forwardLeverage and the Cost of Capital. A firm currently has a debt-equity ratio of 1/2. The debt,which is virtually riskless, pays an interest rate of 6%. The expected rate of return on the equityis 12%. What would be the expected rate of return on equity if the firm reduced its debt-equityratio to 1/3? Assume the firm pays no taxes. (LO16-1)arrow_forward
- D6) Finance the stock of apsara ltd is currently trading at a price of 500 another stock reynolds ( with similar cost of equity i .e., 20%) is trading at 400 per share. If the current divident per share paid by both reynolds and apsara is the same, then what would be the reasons behind the diffrence in stock prices of both these companies. explain your answer with adequate rationalearrow_forwardQuestion 23 Which of the following is an advantage of equity financing vs debt financing? A If the company makes no profit in a year it has no legal obligation to pay a dividend. B paid to shareholders attract tax relief and so lower the company tax bill. C Equity holders can exert significant pressure of management of a company. D Equity financing can typically be used for all sizes of financing from a few hundred pounds to billions.arrow_forwardCH6 # 1 The ABC Company has a stable dividend policy ($2 per share per year). It also has a policy of not raising new capital from the market. The policy is to invest the available funds after payment of the dividends (excess cash is invested in marketable securities). What does this imply about the use of the present value method of making investment decisions?arrow_forward
- H3. A firm wishes to maintain an sustainable growth rate of 9 percent and a dividend payout ratio of 64 percent. The ratio of total assets to sales is constant at 0.9, and the profit margin is 10.1 percent. If the firm also wishes to maintain a constant debt-equity ratio, what must it be? Please show proper step by step calculationarrow_forward45. Which of the following is an example of a capital market instrument? a. Commercial Paper. b. Treasury bills. c. Preferred stock. d. Banker’s acceptances. 46. Which of the following ratios will increase as a firm uses more financial leverage? a. The debt-to-equity ratio b. The inventory turnover c. The time-interest-earned ratio 47 You need $2,000 to buy a new stereo for your car. If you have $800 to invest at 5 percent compounded annually, how long will you have to wait to buy the stereo? a. 18.78 years. b. 14.58 years. c. 8.42 years. d. 6.58 years.arrow_forwardQ No 4 FFC is trying to establish its optimal capital structure. Its current capital structure consists of 25% debt and 75% equity; however, the CEO believes that the firm should use more debt. The risk-free rate, rRF, is 4%; the market risk premium, RPM, is 5%; and the firm’s tax rate is 40%. Currently, FFC has beta of 1.5. What would be FFC’s estimated cost of equity if it changed its capital structure to 40% debt and 60% equity? Should the company opt new capital structure, decide based on the cost of equity computations?arrow_forward
- Q. 6 High Flyer, Inc., wishes to maintain a growth rate of 14% per year and a debt-equity ratio of 0.5. The profit margin is 4.6%, and total asset turnover is constant at 1.16. What is the dividend payout ratio? (A negative answer should be indicated by a minus sign. DO NOT round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16) What is the maximum sustainable growth rate for this company? (DO NOT round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16)arrow_forwardQ No. 1 Lucky Cement is trying to establish its optimal capital structure. Its current capital structure consists of 20% debt and 80% equity; however, the CEO believes that the firm should use more debt. The risk-free rate, rRF, is 5%; the market risk premium, RPM, is 6%; and the firm’s tax rate is 40%. Currently, Lucky Cement has beta of 1.5. What would be Lucky Cement’s estimated cost of equity if it changed its capital structure to 40% debt and 60% equity? Should the company opt new capital structure? (Decide based on the cost of equity computations)?arrow_forwardQ#2:Debt to Assets Ratio Debt to Equity Before-tax cost of debt0.0 0 6%0.1 0.11 7%0.2 0.25 9%0.3 0.43 12.5%0.4 0.66 15.5%Krf= 3%, Market Risk Premuim = 5%, T=30%, BUL = 0.9.Required: Determine, its capital structure. Q#3: A firm has 20 million shares outstanding, with a $30 per share market price. The firm has $10million in extra cash that it plans to use in a stock repurchase;…arrow_forward
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