Exam 14: Capital Structure in a Perfect Market

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 new stock,what will Rockwood's cost of equity capital be?

Suppose that to raise the funds for the initial investment the firm borrows $80,000 at the risk free rate,then the cost of capital for the firm's levered equity is closest to:

Consider the following equation: β_U = β_E + β_D The term in the equation is:

Suppose that to raise the funds for the initial investment the firm borrows $45,000 at the risk free rate and issues new equity to cover the remainder.In this situation,calculate the value of the firm's levered equity from the project.What is the cost of capital for the firm's levered equity?

Use the following information to answer the question(s) below. Galt Industries has 50 million shares outstanding and a market capitalization of $1.25 billion. It also has $750 million in debt outstanding. Galt Industries has decided to delever the firm by issuing new equity and completely repaying all the outstanding debt. Assume perfect capital markets. -Suppose you are a shareholder in Galt industries holding 100 shares,and you disagree with this decision to delever the firm.You can undo the effect of this decision by

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%. -The NPV for this project is closest to:

Which of the following statements is FALSE?

Use the following information to answer the question(s) below. Galt Industries has 50 million shares outstanding and a market capitalization of $1.25 billion. It also has $750 million in debt outstanding. Galt Industries has decided to delever the firm by issuing new equity and completely repaying all the outstanding debt. Assume perfect capital markets. -Suppose you are a shareholder in Galt industries holding 600 shares,and you disagree with this decision to delever the firm.You can undo the effect of this decision by:

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. -Prior to any borrowing and share repurchase,the equity cost of capital for RC is closest to:

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. -Show mathematically that the stock price of RC won't change following the debt issuance and share repurchase.

Use the following information to answer the question(s) below. Galt Industries has no debt, total equity capitalization of $600 million, and an equity beta of 1.2. Included in Galt's assets is $90 million in cash and risk-free securities. Assume the risk-free rate is 4% and the market risk premium is 6%. -Galt's enterprise value is closest to:

Suppose you are a shareholder in d'Anconia Copper holding 500 shares,and you disagree with the decision to lever the firm.You can undo the effect of this decision by:

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.

What is a market value balance sheet and how does it differ from a book value balance sheet?

Consider the following equation: β_U = β_E + β_D The term β_U in the equation is:

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:

Which of the following statements is FALSE?

Use the information for the question(s) below. Luther Industries has no debt, a total equity capitalization of $20 billion, and a beta of 1.8. Included in Luther's assets are $4 billion in cash and risk-free securities. -What is Luther's enterprise value?

Which of the following statements is FALSE?

Which of the following statements is FALSE?