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    Calculate WACC, required return, NPV, value of stock, risk, tax rate

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    ONE
    Calculate the weighted average cost of capital for the Luxury Porcelain Company. The book value of Luxury's outstanding debt is $60 million. Currently, the debt is trading at 120 percent of book value and is priced to yield 12 percent. The 5 million outstanding shares of Luxury stock are trading at $20 per share. The required return on Luxury stock is 18 percent. The tax rate is 25 percent.

    TW0
    Suppose Garageband.com has a 28 percent cost of equity capital and a 10 percent before-tax cost of debt capital. The firm's debt-to-equity ratio is 1.0. Garageband.com is interested in investing in a guitar factory that will cost $1,000,000 and will provide $600,000 pre-tax annual cash flows for five years. The project risk is similar to the overall risk of the firm. What is the net present value of this project if Garageband.com's tax rate is 35 percent?

    THREE
    Levered Inc., and Unlevered Inc., are identical in every way except their capital structures. Each company expects to earn $96 million before interest per year in perpetuity, with each company distributing all its earnings as dividends. Levered's perpetual debt has a market value of $275 million and costs 8 percent per annum. Levered has 4.5 million shares outstanding, currently worth $100 per share. Unlevered has no debt and 10 million shares outstanding, currently worth $80 per share. Neither firm pays taxes. Is Levered's stock a better buy than Unlevered's stock?

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    Solution Summary

    Amounts are calculated for WACC, required return, NPV, value of stock, risk, tax rate for Luxury Porcelain Company, Garageband.com, Levered Inc., and Unlevered Inc.

    $2.19

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