# Net Present Value (NPV), Stock Valuation, Issuing New Equity

Walton Industries, Inc. (WII), has 10,000 shares of common stock outstanding, and the current price of the stock is $100 per share. The firm does not have any debt. The CEO discovs an opportunity in a new project that produces positive net cash flows with a present value of $210,000. The total initial costs for investing and developing this project are only $110,000. The CEO will raise the necessary capital for this investment by issuing new equity. All potential buyers of the firm' common stock will be fully aware of the project's value and cost, and are willing to pay "fair value" for the new share of WII common stock.

a) What is the net present value of this project?

b) How many shares of common stock must be issued, and at what price to raise the required capital? Hint: the stock price should reflect the value created by the investment opportunity.

c) What is the effect, if any, of this new project on the value of the stock of existing shareholders?

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Walton Industries, Inc. (WII), has 10,000 shares of common stock outstanding, and the current price of the stock is $100 per share. The firm does not have any debt. The CEO discovs an opportunity in a new project that produces positive net cash flows with a present value of $210,000. The total initial costs for investing and developing this project are only $110,000. The CEO will raise the necessary capital for this investment by issuing new equity. All potential buyers of the firm' common stock will be fully aware of the project's value and cost, and are willing to ...

#### Solution Summary

The following are determined:

a) the net present value of this project,

b) the number of common stock and the price at which the shares are issued to raise the required capital,

c) the effect of the new project on the value of the stock of existing shareholders

If the assumed tax rate is 40 percent on ordinary income and capital gains, what is the initial investment?

Calculate the operating breakeven point in units

41.) A corporation has decided to replace an existing asset with a newer model. The new asset will cost $70,000. The original asset, when purchased cost $10,000, was being depreciated under a straight line methodology, using a five-year recovery period, and has been depreciated for four full years. The existing asset can be sold for $8,000. If the assumed tax rate is 40 percent on ordinary income and capital gains, what is the initial investment?

42.) Cullum Creations produces hand warmers, selling 400,000 warmers a year. Each warmer produced has a variable operating cost of $0.84 and sells for $1.00. Fixed operating costs are $28,000. The firm has annual interest charges of $6,000, preferred dividends of $2,000, and a 40% tax rate.

Calculate the operating breakeven point in units

Use the degree of operating leverage (DOL) formula to calculate DOL.

Use the degree of financial leverage (DFL) formula to calculate DFL.

Use the degree of total leverage (DTL) formula to calculate DTL.

43.) Jones Corp uses a cost of capital of 14% to evaluate average risk projects and adds/subtracts 2% points to evaluate projects of greater/lesser risk. Currently two mutually exclusive projects are under consideration. Both have a net cost of $240,000 and last four years. Project A, which is riskier than average, will produce cash flows of $97,000 each year. Project B, which is a less-than-average risk, will produce net cash flows of $196,000 in years 3 and 4 only. What should Jones do?

44.) Ajax, Inc. has common stock outstanding that has a market price of $48 per share. Last year's dividend was $2.25 and is expected to grow at a rate of 4% per year, forever. The expected risk-free rate of interest is 2%, and the expected market premium is 5.5%. The company's beta is 1.2.

A) What is the cost of equity for Ajax using the dividend valuation model?

B.) What is the cost of equity for Ajax using the capital asset pricing model (CAPM)?

5.) Alpha, Inc. is expecting to issue new debt at par with a coupon rate of 6%, and to issue new preferred stock with a $2.00 per share dividend at $20 a share. Common stock is currently selling for $25 a share. Alpha expects to pay a dividend of $2.50 per share next year, and a market analysis indicates dividends will grow at a rate of 3% per year. The marginal tax rate is 40%.

A) What is the cost of debt, cost of preferred stock and cost of common stock?

B) If Alpha raises capital using a capital structure of 40% debt, 10% preferred stock and 50% common stock, what is the cost of capital for Alpha, Inc.?

**PLEASE SHOW ALL CALCULATIONS FOR ALL PROBLEMS

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