FIN 370 Week 4 My Finance Lab

FIN 370 Week 4 My Finance
Lab

Problem 1(Cost
or Preferred Stock)
The preferred stock
of Gator Industries sells for $34.07 and pays $2.76 per year in dividends. What
is the cost of preferred stock financing? If Gator were to issue 549,000 more
preferred shares just like the ones it currently has outstanding. it could sell
them for $34.07 a share but would incur flotation costs of $3.21 per share.
What are the flotation costs for issuing the preferred shares and how should
this cost be incorporated into the NPV of the project being financed? The
firm’s cost of preferred stock financing is?

Problem 2(Cost
of debt)
The Walgreen
Corporation is contemplating a new investment that it plans to finance using
one-third debt. The firm can sell new $1,000 par value bonds with a 15-year
maturity at a price of $954 that carry a coupon interest rate of 13.8 percent
that is paid semiannually. If the company is in a 34 percent tax bracket, what
is the after-tax cost of capital to Walgreen for the bonds?

Problem 3(Cost
or debt)
Gillian Stationery
Corporation needs to raise $600,000 to improve its manufacturing plant. It has
decided to issue a $1,000 par value bond with an annual coupon rate of 8.0
percent with interest paid semiannually and a 10-year maturity. Investors
require a rate of return of 10.0 percent.
a. Compute the
market value of the bonds.
b. How many bonds
will the firm have to issue to receive the needed funds?
c. What is the
firm’s after-tax cost of debt if the firm’s tax rate is 34 percent?

Problem 4(Weighted
average cost or capital)
As a consultant to
GBH Skiwear, you have been asked to compute the appropriate discount rate to
use in the evaluation of the purchase of a new warehouse facility. You have
determined the market value of the firm’s current capital structure (which the
firm considers to be its target mix of financing sources) as follows: To
finance the purchase, GBH will sell 20-year bonds with a $1,000 par value
paying 8.5 percent per year (paid semiannually) at the market price of $937. Preferred
stock paying a $2.41 dividend can be sold for $34.46. Common stock for GBH is
currently selling for$50.96 per share. The firm paid a $3.93 dividend last year
and expects dividends to continue growing at a rate of 4.2 percent per year
into the indefinite future. The firm’s marginal tax rate is 34 percent. What
discount rate should you use to evaluate the warehouse project?

Problem 5 (Describing
a firm’s capital structure)
Lowe’s Companies
Inc. (LOW) and its subsidiaries operate as a home improvement retailer in the
United States and Canada. As of February 1, 2008, it operated 1,534 stores in
50 states and Canada. The company’s balance sheet for February 1, 2008,
included the following sources of financing.
a. Calculate the
values of Lowe’s debt ratio and interest-bearing debt ratio
b. If the market
value of Lowe’s common equity is $35.86 billion and Lowe’s has no excess cash.
what is the firms debt-to-enterprise-value ratio? (Hint: you may assume that
the market value of the firm’s interest-bearing debt equals its book value.)

Problem 6(Computing
interest tax savings)
Dharma Supply has
earnings before interest and taxes (EBIT) of $576,000, interest expenses of
$295,000, and faces a corporate tax rate of 34 percent.
a. What is Dharma
Supply’s net income?
b. What would
Dharma’s net income be if it didn’t have any debt (and consequently no interest
expense)?
c. What are the
firm’s interest tax savings?

Problem 7(Leverage
and EPS)
You have developed
the following pro forma income statement for your corporation.
a. If sales should
increase by 30 percent. by what percent would earnings before interest and
taxes and net income increase?
b. If sales should
decrease by 30 percent, by what percent would earnings before interest and
taxes and net income decrease?
c. If the firm were
to reduce its reliance on debt financing such that interest expense were cut in
half (how would this affect your answers to parts a and b?

Problem 8(EBIT-EPS
break-even analysis)
Home Depot Inc. (HD)
had 1.70 billion shares of common stock outstanding in 2008, whereas Lowes
Companies,. Inc. (LOW) had 1.46 billion shares outstanding.
Assuming Home
Depot’s 2008 interest expense is $696 million Lowes’ interest expense is $239 million
and a 36 percent tax rate for both firms, what is their break-even level of
operating income. (i.e the level of EBIT where EPS is the same for both firms)?

Problem 9(Individual
or component costs of capital)
Compute the cost of
capital for the firm for the following:
a). A bond that has
a $1,000 par value (face value) and a contract or coupon interest rate of
10.5%. Interest payments are $52.50 and are paid semiannually. The bonds have a
current market value of $1,126 and will mature in 10 years. The firm’s marginal
tax rate is 34%.
b). A new common
stock issue that paid a $1.84 dividend last year. The firm’s dividends are
expected to continue to grow at 6.3% per year forever. The price of the firm’s
common stock is now $27.58.
c) A preferred stock
that sells for $148, pays a dividend of 9.5 percent and has a $100 par value

Problem 10
Templeton Extended
Care Facilities, Inc is considering the acquisition of a chain of cemeteries
for $390 million. Since the primary assest of this business is real estate,
Templeton’s management has determined that they will be able to borrow the
majority of the money needed to buy the business. The current owners have no
debt financing but Templeton plans to borrow $280 million and invest only $110
million in equity in the acquisition. What weights should Templeton use in
computing the WAAC for this acquisition?