Professional Documents
Culture Documents
#1
BMW
Corporation
is
comparing
two
different
capital
structures,
an
alli equity
plan
(Plan
I)
and
a
levered
plan
(Plan
II).
Under
Plan
I,
BMW
would
have
265,000
shares
of
stock
outstanding.
Under
Plan
II
there
would
be
185,000
shares
of
stock
outstanding
and
$2.8
million
in
debt
outstanding.
The
interest
rate
on
the
debt
is
10
percent
and
there
are
no
taxes.
If
EBIT
is
$750,000,
which
plan
will
result
in
the
higher
EPS?
________________
If
EBIT
is
$1,500,000,
which
plan
will
result
in
the
higher
EPS?
_______________
What
is
the
break-even
EBIT?
______________
Exercise
#2
In
Exercise
1
(above),
use
MM
proposition
I
to
find
the
price
per
share
of
equity
under
each
of
the
two
proposed
plans.
What
is
the
stock
price
per
share?
$
___________________
What
is
the
value
of
the
firm?
$
____________________
Exercise
#3
BESTBUY
Co.
and
STAPLES
Co.
are
identical
firms
in
all
respects
except
for
their
capital
structure.
BESTBUY
is
all
equity
financed
with
$750,000
in
stock.
STAPLES
uses
both
stock
and
perpetual
debt;
its
stock
is
worth
$375,000
and
the
interest
rate
on
its
debt
is
8
percent.
Both
firms
expect
EBIT
to
be
$86,000.
Ignore
taxes.
Richard
owns
$30,000
worth
of
STAPLE's
stock.
What
rate
of
return
is
he
expecting?
__________%
Show
how
Skyler
could
generate
exactly
the
same
cash
flows
and
rate
of
return
by
investing
in
BESTBUY
and
using
homemade
leverage.
Assume
Richard
sells
all
his
shares
in
STAPLES.
He
then
uses
the
$30,000
proceeds
and
borrows
additional
$30,000
to
buy
share
in
BESTBUY.
His
BESTBUY
dividends
will
be
____________
for
Exercise
#4
FORD,
Inc.,
has
equity
with
a
market
value
of
$23
million
and
debt
with
a
market
value
of
$7
million.
Treasury
bills
that
mature
in
one
year
yield
5
percent
per
year,
and
the
expected
return
on
the
market
portfolio
is
12
percent.
The
beta
of
FORD's
equity
is
1.15.
The
firm
pays
no
taxes.
What
is
FORDs
debt- equity
ratio?
_______________
What
is
the
firms
weighted
average
cost
of
capital?
________________%
What
is
the
cost
of
capital
for
an
otherwise
identical
all-equity
firm?
_________________%
Exercise
#5
GRANNY
Corp.
has
an
EBIT
rate
of
$975,000
per
year
that
is
expected
to
continue
in
perpetuity.
The
unlevered
cost
of
equity
for
the
company
is
14
percent,
and
the
corporate
tax
rate
is
35
percent.
The
company
also
has
a
perpetual
bond
issue
outstanding
with
a
market
value
of
$1.9
million.
What
is
the
value
of
the
company?
$
___________________
Exercise
#6
Yu Jianguo is
the
owner,
president,
and
primary
salesperson
for
Asa
Manufacturing.
Because
of
this,
the
companys
profits
are
driven
by
the
amount
of
work
Yu
does.
If
he
works
40
hours
each
week,
the
companys
EBIT
will
be
$550,000
per
year;
if
he
works
a
50- hour
week,
the
companys
EBIT
will
be
$625,000
per
year.
The
company
is
currently
worth
$3.2
million.
The
company
needs
a
cash
infusion
of
$1.3
million,
and
it
can
issue
equity
or
issue
debt
with
an
interest
rate
of
8
percent.
Assume
there
are
no
corporate
taxes.
What
are
the
cash
flows
to
Yu
under
each
scenario?
Under
Debt
Issue:
40-hour
week:
$
_______________
50-hour
week:
$
_______________
Under
Equity
Issue:
40-hour
week:
$
_______________
50-hour
week:
$
_______________
Under
which
form
of
financing
is
Yu
likely
to
work
harder?
Under
Debt
Issue
Under
Equity
Issue
Exercise
#7
MGM,
Inc.
has
debt
outstanding
with
a
face
value
of
$6
million.
The
value
of
the
firm
if
it
were
entirely
financed
by
equity
would
be
$17.85
million.
The
company
also
has
350,000
shares
of
stock
outstanding
that
sell
at
a
price
of
$38
per
share.
The
corporate
tax
rate
is
35
percent.
What
is
the
decrease
in
the
value
of
the
company
due
to
expected
bankruptcy
costs?
$________