Exam 17: Capital Structure in a Perfect Market

Use the information for the question(s) below. Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%. -Suppose that you borrow only $30,000 in financing the project.According to MM Proposition II,the firm's equity cost of capital will be closest to:

Use the information for the question(s) below. Consider two firms, With and Without, that have identical assets that generate identical cash flows. Without is an all-equity firm, with 1 million shares outstanding that trade for a price of $24 per share. With has 2 million shares outstanding and $12 million dollars in debt at an interest rate of 5%. -According to MM Proposition 1,the stock price for With is closest to:

Use the information for the question(s) below. Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%. -Sisyphean Bolder Movers Incorporated has no debt,a total equity capitalization of $50 billion,and a beta of 2.0.Included in Sisyphean's assets are $12 billion in cash and risk-free securities.Calculate Sisyphean's enterprise value and unlevered cost of equity considering the fact that Sisyphean's cash is risk-free.

Use the information for the question(s) below. Assume that Rose Corporation's (RC) EBIT is not expected to grow in the future and that all earnings are paid out as dividends. RC is currently an all equity firm. It expects to generate earnings before interest and taxes (EBIT) of $6 million over the next year. Currently RC has 5 million shares outstanding and its stock is trading for a price of $12.00 per share. RC is considering borrowing $12 million at a rate of 6% and using the proceeds to repurchase shares at the current price of $12.00. -Following the borrowing of $12 million and the subsequent share repurchase,the number of shares that RC will have outstanding is closest to:

Assume that in addition to 1.25 billion common shares outstanding,Luther has stock options given to employees valued at $2 billion.After the repurchase how many shares will Luther have outstanding?

Which of the following statements is false?

Equity in a firm with no debt is called

Use the information for the question(s) below. Rockwood Enterprises is currently an all equity firm and has just announced plans to expand their current business. In order to fund this expansion, Rockwood will need to raise $100 million in new capital. After the expansion, Rockwood is expected to produce earnings before interest and taxes of $50 million per year in perpetuity. Rockwood has already announced the planned expansion, but has not yet determined how best to fund the expansion. Rockwood currently has 16 million shares outstanding and following the expansion announcement these shares are trading at $25 per share. Rockwood has the ability to borrow at a rate of 5% or to issue new equity at $25 per share. -If Rockwood finances their expansion by issuing $100 million in debt at 5%,what will Rockwood's cost of equity capital be?

Two separate firms are considering investing in this project.Firm Unlevered plans to fund the entire $80,000 investment using equity,while Firm Levered plans to borrow $45,000 at the risk-free rate and use equity to finance the remainder of the initial investment.Calculate the risk premiums for both the levered and unlevered firm.

Use the information for the question(s) below. Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%. -Suppose that you borrow only $60,000 in financing the project.According to MM Proposition II,the firm's equity cost of capital will be closest to:

Which of the following statements is false?

Which of the following statements is false?

Use the information for the question(s) below. You are evaluating a new project and need an estimate for your project's beta. You have identified the following information about three firms with comparable projects: -The unlevered beta for Blinkin is closest to:

Use the information for the question(s) below. You are evaluating a new project and need an estimate for your project's beta. You have identified the following information about three firms with comparable projects: -The unlevered beta for Lincoln is closest to:

Suppose that to raise the funds for the initial investment,the project is sold to investors as an all-equity firm.The equity holders will receive the cash flows of the project in one year.The market value of the unlevered equity for this project is closest to:

Suppose that to raise the funds for the initial investment the firm borrows $40,000 at the risk free rate and issues new equity to cover the remainder.In this situation,the cash flow that equity holders will receive in one year in a strong economy is closest to:

Use the information for the question(s) below. Consider two firms: firm Without has no debt, and firm With has debt of $10,000 on which it pays interest of 5% per year. Both companies have identical projects that generate free cash flows of $1,000 or $2,000 each year. Suppose that there are no taxes, and after paying any interest on debt, both companies use all remaining cash free cash flows to pay dividends each year. -Suppose you own 10% of the equity of Without.What is another portfolio you could hold that would provide you with the same exact cash flows?

Consider the following equation: E + D = U = A The A in this equation represents

Use the information for the question(s) below. Consider two firms: firm Without has no debt, and firm With has debt of $10,000 on which it pays interest of 5% per year. Both companies have identical projects that generate free cash flows of $1,000 or $2,000 each year. Suppose that there are no taxes, and after paying any interest on debt, both companies use all remaining cash free cash flows to pay dividends each year. -Fill in the table below showing the payments debt and equity holders of each firm will receive given each of the two possible levels of free cash flows:

Use the information for the question(s) below. Rockwood Enterprises is currently an all equity firm and has just announced plans to expand their current business. In order to fund this expansion, Rockwood will need to raise $100 million in new capital. After the expansion, Rockwood is expected to produce earnings before interest and taxes of $50 million per year in perpetuity. Rockwood has already announced the planned expansion, but has not yet determined how best to fund the expansion. Rockwood currently has 16 million shares outstanding and following the expansion announcement these shares are trading at $25 per share. Rockwood has the ability to borrow at a rate of 5% or to issue new equity at $25 per share. -Show mathematically that the stock price of Rockwood does not depend on whether they issue new stock or borrow to fund their expansion.