WACC. Nodebt, Inc., is a firm with all-equity financing. Its equity beta is .80. The Treasury bill rate is 4 percent and the market risk premium is expected to be 10 percent. What is Nodebt's asset beta? What is Nodebt's weighted-average cost of capital? The firm is exempt from paying taxes.
Rights. In 2001 Pandora, Inc., makes a rights issue at a subscription price of $5 a share. One new share can be purchased for every four shares held. Before the issue there were 10 million shares outstanding and the share price was $6.
a. What is the total amount of new money raised?
b. What is the expected stock price after the rights are issued?
Earnings and Leverage. Reliable Gearing currently is all-equity financed. It has 10,000 shares of equity outstanding, selling at $100 a share. The firm is considering a capital restructuring. The low-debt plan calls for a debt issue of $200,000 with the proceeds used to buy back stock. The high-debt plan would exchange $400,000 of debt for equity. The debt will pay an interest rate of 10 percent. The firm pays no taxes.
a. What will be the debt-to-equity ratio after each possible restructuring?
b. If earnings before interest and tax (EBIT) will be either $90,000 or $130,000, what will be earnings per share for each financing mix for both possible values of EBIT? If both scenarios are equally likely, what is expected (i.e., average) EPS under each financing mix? Is the high-debt mix preferable?
c. Suppose that EBIT is $100,000. What is EPS under each financing mix? Why are they the same in this particular case?
Buy versus Lease. You can buy a car for $25,000 and sell it in 5 years for $5,000. Or you can lease the car for 5 years for $5,000 a year. The discount rate is 12 percent per year.
a. Which option do you prefer?
b. What is the maximum amount you should be willing to pay to lease rather than buy the car?
Preferred Stock. Preferred stock of financially strong firms sometimes sells at lower yields than the bonds of those firms. For weaker firms, the preferred stock has a higher yield. What might explain this pattern?
Various finance problems are explained in the solution