2.99 See Answer

Question: Suppose Sunburn Sunscreen and Frostbite Thermalwear


Suppose Sunburn Sunscreen and Frostbite Thermalwear in the previous problems have decided to merge. Because the two companies have seasonal sales, the combined firm’s return on assets will have a standard deviation of 29 percent per year.
a. What is the combined value of equity in the two existing companies? The value of debt?
b. What is the value of the new firm’s equity? The value of debt?
c. What was the gain or loss for shareholders? For bondholders?
d. What happened to shareholder value here?



> The treasurer of a major U.S. firm has $30 million to invest for three months. The annual interest rate in the United States is .21 percent per month. The interest rate in Great Britain is .57 percent per month. The spot exchange rate is £ .64, and the t

> Explain the purchase accounting method for mergers. What is the effect on cash flows? On EPS?

> Are the following statements true or false? Explain why. a. If the general price index in Great Britain rises faster than that in the United States, we would expect the pound to appreciate relative to the dollar. b. Suppose you are a German machine tool

> What are DIP loans? Where do DIP loans fall in the APR?

> Penn Corp. is analyzing the possible acquisition of Teller Company. Both firms have no debt. Penn believes the acquisition will increase its total after tax annual cash flow by $1.1 million indefinitely. The current market value of Teller is $45 million,

> Essence of Skunk Fragrances, Ltd., sells 4,900 units of its perfume collection each year at a price per unit of $495. All sales are on credit with terms of 1/10, net 40. The discount is taken by 40 percent of the customers. What is the total amount of th

> What are the different inventory types? How do the types differ? Why are some types said to have dependent demand, whereas other types are said to have independent demand?

> Paper Submarine Manufacturing is investigating a lockbox system to reduce its collection time. It has determined the following: The total collection time will be reduced by three days if the lockbox system is adopted. a. What is the PV of adopting the s

> Gruber Corp. pays a constant $9 dividend on its stock. The company will maintain this dividend for the next 12 years and will then cease paying dividends forever. If the required return on this stock is 10 percent, what is the current share price?

> If Treasury bills are currently paying 4.5 percent and the inflation rate is 2.1 percent, what is the approximate real rate of interest? The exact real rate?

> The manager for a growing firm is considering the launch of a new product. If the product goes directly to market, there is a 50 percent chance of success. For $175,000 the manager can conduct a focus group that will increase the product’s chance of succ

> The Mango Republic has just liberalized its markets and is now permitting foreign investors. Tesla Manufacturing has analyzed starting a project in the country and has determined that the project has a negative NPV. Why might the company go ahead with th

> You place an order for 500 units of inventory at a unit price of $135. The supplier offers terms of 1/10, net 30. a. How long do you have to pay before the account is overdue? If you take the full period, how much should you remit? b. What is the discoun

> Dog Up! Franks is looking at a new sausage system with an installed cost of $375,000. This cost will be depreciated straight-line to zero over the project’s five-year life, at the end of which the sausage system can be scrapped for $40,000. The sausage s

> When is EAC analysis appropriate for comparing two or more projects? Why is this method used? Are there any implicit assumptions required by this method that you find troubling? Explain.

> Bill plans to open a self-serve grooming center in a storefront. The grooming equipment will cost $385,000, to be paid immediately. Bill expects aftertax cash inflows of $84,000 annually for seven years, after which he plans to scrap the equipment and re

> Are the capital budgeting criteria we discussed applicable to not-for-profit corporations? How should such entities make capital budgeting decisions? What about the U.S. government? Should it evaluate spending proposals using these techniques?

> Imprudential, Inc., has an unfunded pension liability of $630 million that must be paid in 20 years. To assess the value of the firm’s stock, financial analysts want to discount this liability back to the present. If the relevant discount rate is 7.1 per

> TMCC has the right to buy back the securities on the anniversary date at a price established when the securities were issued (this feature is a term of this particular deal). What impact does this feature have on the desirability of this security as an i

> Assuming the following ratios are constant, what is the sustainable growth rate? Total asset turnover 5 2.20 Profit margin 5 7.4% Equity multiplier 5 1.40 Payout ratio 5 40%

> The following table presents the long-term liabilities and stockholders’ equity of Information Control Corp. one year ago: Long-term debt………………………….………….……………… $ 65,000,000 Preferred stock……………………….…………………….…………… 4,000,000 Common stock ($1 par value)………

> Suppose you own stock in a company. The current price per share is $25. Another company has just announced that it wants to buy your company and will pay $35 per share to acquire all the outstanding stock. Your company’s management immediately begins fig

> Use Figure 31.1 to answer the following questions. Suppose interest rate parity holds, and the current six-month risk-free rate in the United States is 1.9 percent. What must the six-month risk-free rate be in Great Britain? In Japan? In Switzerland? Fig

> Describe each of the following: a. Sight draft. b. Time draft. c. Banker’s acceptance. d. Promissory note. e. Trade acceptance.

> Given that many multinationals based in many countries have much greater sales outside their domestic markets than within them, what is the particular relevance of their domestic currency?

> What is the absolute priority rule?

> In the previous problem, construct the balance sheet for the new corporation assuming that the transaction is treated as a purchase for accounting purposes. The market value of All Gold Mining’s fixed assets is $5,800; the market values

> Describe the advantages and disadvantages of a taxable merger as opposed to a tax-free exchange. What is the basic determinant of tax status in a merger? Would an LBO be taxable or nontaxable? Explain.

> In each of the following pairings, indicate which firm would probably have a longer credit period and explain your reasoning. a. Firm A sells a miracle cure for baldness; Firm B sells toupees. b. Firm A specializes in products for landlords; Firm B speci

> A mail-order firm processes 5,700 checks per month. Of these, 60 percent are for $55 and 40 percent are for $80. The $55 checks are delayed two days on average; the $80 checks are delayed three days on average. a. What is the average daily collection flo

> Suppose you know that a company’s stock currently sells for $72 per share and the required return on the stock is 11.5 percent. You also know that the total return on the stock is evenly divided between a capital gains yield and a dividend yield. If it’s

> Based on the dividend growth model, what are the two components of the total return on a share of stock? Which do you think is typically larger?

> A Japanese company has a bond outstanding that sells for 92 percent of its ¥100,000 par value. The bond has a coupon rate of 2.8 percent paid annually and matures in 21 years. What is the yield to maturity of this bond?

> Are there any circumstances under which an investor might be more concerned about the nominal return on an investment than the real return?

> In a typical month, the Jeremy Corporation receives 140 checks totaling $124,000. These are delayed four days on average. What is the average daily float?

> Bishop, Inc., has current assets of $5,700, net fixed assets of $27,000, current liabilities of $4,400, and long-term debt of $12,900. What is the value of the shareholders’ equity account for this firm? How much is net working capital?

> McLemore Industries has a zero coupon bond issue that matures in two years with a face value of $50,000. The current value of the company’s assets is $29,000, and the standard deviation of the return on assets is 60 percent per year. a. Assume the risk-f

> An investor is said to take a position in a “collar” if she buys the asset, buys an out-of-the-money put option on the asset, and sells an out-of-the-money call option on the asset. The two options should have the same time to expiration. Suppose Marie w

> Maverick Manufacturing, Inc., must purchase gold in three months for use in its operations. Maverick’s management has estimated that if the price of gold were to rise above $1,530 per ounce, the firm would go bankrupt. The current price of gold is $1,450

> Rob wishes to buy a European put option on BioLabs, Inc., a non-dividend–paying common stock, with a strike price of $40 and six months until expiration. BioLabs’ common stock is currently selling for $30 per share, and Rob expects that the stock price w

> Ken is interested in buying a European call option written on Southeastern Airlines, Inc., a non-dividend–paying common stock, with a strike price of $75 and one year until expiration. Currently, Southeastern’s stock sells for $78 per share. In one year

> T-bills currently yield 4.8 percent. Stock in Nina Manufacturing is currently selling for $63 per share. There is no possibility that the stock will be worth less than $61 per share in one year. a. What is the value of a call option with a $60 exercise p

> A company has a single zero coupon bond outstanding that matures in 10 years with a face value of $15 million. The current value of the company’s assets is $13.4 million, and the standard deviation of the return on the firm’s assets is 39 percent per yea

> In the previous problem, assume the risk-free rate is only 5 percent. What is the risk-neutral value of the option now? What happens to the risk-neutral probabilities of a stock price increase and a stock price decrease? Data from previous problem A stoc

> The sales budget for your company in the coming year is based on a quarterly growth rate of 10 percent with the first-quarter sales projection at $225 million. In addition to this basic trend, the seasonal adjustments for the four quarters are 0, 2$16, 2

> What is the duration of a bond with two years to maturity if the bond has a coupon rate of 7 percent paid semiannually, and the market interest rate is 5 percent?

> Assume that the tax rate is 35 percent. You can borrow at 8 percent before taxes. Should you lease or buy? You work for a nuclear research laboratory that is contemplating leasing a diagnostic scanner (leasing is a common practice with expensive, high-t

> What are the key differences between leasing and borrowing? Are they perfect substitutes?

> You purchase one call and sell one put with the same strike price and expiration date. What is the delta of your portfolio? Why?

> A stock is currently priced at $50. The stock will never pay a dividend. The risk-free rate is 12 percent per year, compounded continuously, and the standard deviation of the stock’s return is 60 percent. A European call option on the stock has a strike

> Use the Black–Scholes model for pricing a call, put–call parity, and the previous question to show that the Black–Scholes model for directly pricing a put can be written as follows: P = E × e–Rt ×N(–d2) – S × N(–d1)

> Use the option quote information shown here to answer the questions that follow. The stock is currently selling for $83. a. Are the call options in the money? What is the intrinsic value of an RWJ Corp. call option? b. Are the put options in the money?

> In the chapter we noted that the delta for a put option is N( d 1 ) − 1. Is this the same thing as −N(− d 1 )?

> The put–call parity condition is altered when dividends are paid. The dividend-adjusted put–call parity formula is: S × e−dt − P = E × e−Rt + C where d is again the continuously compounded dividend yield. a. What effect do you think the dividend yield wi

> In addition to the five factors discussed in the chapter, dividends also affect the price of an option. The Black–Scholes option pricing model with dividends is: C = S × e–dt × N(d1) – E × e–Rt × N(d2) d1 = [ln(S/E) + (R – d + σ2/2) × t]/(σ × √t ) d2 = d

> Strudler Real Estate, Inc., a construction firm financed by both debt and equity, is undertaking a new project. If the project is successful, the value of the firm in one year will be $280 million, but if the project is a failure, the firm will be worth

> If a U.S. company exports its goods to Japan, how would it use a futures contract on Japanese yen to hedge its exchange rate risk? Would it buy or sell yen futures? Does the way the exchange rate is quoted in the futures contract matter?

> Insurance, whether purchased by a corporation or an individual, is in essence an option. What type of option is an insurance policy?

> Brozik Corp. has a zero coupon bond that matures in five years with a face value of $60,000. The current value of the company’s assets is $57,000, and the standard deviation of its return on assets is 50 percent per year. The risk-free rate is 6 percent

> Survivor, Inc., an all-equity firm, has eight shares of stock outstanding. Yesterday, the firm ’ s assets consisted of nine ounces of platinum, currently worth $1,750 per ounce. Today, the company issued Ms. Wu a warrant for its fair value of $1,750. The

> What is the NAL for Wildcat? What is the maximum lease payment that would be acceptable to the company? Required information The Wildcat Oil Company is trying to decide whether to lease or buy a new computer-assisted drilling system for its oil explorati

> Blue Angel, Inc., a private firm in the holiday gift industry, is considering a new project. The company currently has a target debt–equity ratio of .40, but the industry target debt–equity ratio is .35. The industry average beta is 1.2. The market risk

> High electricity costs have made Farmer Corporation’s chicken plucking machine economically worthless. Only two machines are available to replace it. The International Plucking Machine (IPM) model is available only on a lease basis. The lease payments wi

> Frostbite Thermalwear has a zero coupon bond issue outstanding with a face value of $30,000 that matures in one year. The current market value of the firm’s assets is $36,400. The standard deviation of the return on the firm’s assets is 53 percent per ye

> Lone Star Industries just issued $235,000 of perpetual 8 percent debt and used the proceeds to repurchase stock. The company expects to generate $118,000 of earnings before interest and taxes in perpetuity. The company distributes all its earnings as div

> A put and a call have the same maturity and strike price. If they have the same price, which one is in the money? Prove your answer and provide an intuitive explanation.

> Return to the case of the diagnostic scanner discussed in Problems 1 through 6. Suppose the entire $5,200,000 purchase price of the scanner is borrowed. The rate on the loan is 8 percent, and the loan will be repaid in equal installments. Create a lease-

> Mojito Mint Company has a debt–equity ratio of .35. The required return on the company’s unlevered equity is 13 percent, and the pretax cost of the firm’s debt is 7 percent. Sales revenue for the company is expected to remain stable indefinitely at last

> Suppose there were call options and forward contracts available on coal, but no put options. Show how a financial engineer could synthesize a put option using the available contracts. What does your answer tell you about the general relationship between

> A company has a large bond issue maturing in one year. When it matures, the company will float a new issue. Current interest rates are attractive, and the company is concerned that rates next year will be higher. What are some hedging strategies that the

> Kevin Nomura is a Japanese student who is planning a one year stay in the United States. He expects to arrive in the United States in eight months. He is worried about depreciation of the yen relative to the dollar over the next eight months and wishes t

> Omega Airline ’ s capital structure consists of 2.7 million shares of common stock and zero coupon bonds with a face value of $18 million that mature in six months. The firm just announced that it will issue warrants with an exercise price of $95 and six

> National Electric Company (NEC) is considering a $45 million project in its power systems division. Tom Edison, the company’s chief financial officer, has evaluated the project and determined that the project’s unlevered cash flows will be $3.1 million p

> You find a put and a call with the same exercise price and maturity. What do you know about the relative prices of the put and call? Prove your answer and provide an intuitive explanation.

> Automobiles are often leased, and there are several terms unique to auto leases. Suppose you are considering leasing a car. The price you and the dealer agree on for the car is $36,000. This is the base capitalized cost. Other costs that may be added to

> Seger, Inc., is an unlevered firm with expected annual earnings before taxes of $21 million in perpetuity. The current required return on the firm’s equity is 16 percent, and the firm distributes all of its earnings as dividends at the end of each year.

> Suppose the firm in the previous problem is considering two mutually exclusive investments. Project A has an NPV of $1,200, and Project B has an NPV of $1,600. As a result of taking Project A, the standard deviation of the return on the firm’s assets wil

> Cleveland Compressor and Pnew York Pneumatic are competing manufacturing firms. Their financial statements are printed here. a. How are the current assets of each firm financed? b. Which firm has the larger investment in current assets? Why? c. Which fir

> This morning you agreed to buy a one-year Treasury bond in six months. The bond has a face value of $1,000. Use the spot interest rates listed here to answer the following questions: Time EAR 6 months……............................3.61% 12 months…

> William Santiago is interested in entering the import/export business. During a recent visit with his financial advisers, he said, “If we play the game right, this is the safest business in the world. By hedging all of our transactions in the foreign exc

> Monster Magnet Manufacturing is considering leasing some equipment. The annual lease payment would be $375,000 per year for six years. The appropriate interest rate is 8 percent and the company is in the 38 percent tax bracket. How would signing the leas

> Superior Clamps, Inc., has a capital structure consisting of 7 million shares of common stock and 900,000 warrants. Each warrant gives its owner the right to purchase one share of newly issued common stock for an exercise price of $25. The warrants are E

> You are the CEO of Titan Industries and have just been awarded a large number of employee stock options. The company has two mutually exclusive projects available. The first project has a large NPV and will reduce the total risk of the company. The secon

> An asset costs $620,000 and will be depreciated in a straight-line manner over its three-year life. It will have no salvage value. The lessor can borrow at 7 percent and the lessee can borrow at 9 percent. The corporate tax rate is 34 percent for both co

> The Thakor Corporation’s purchases from suppliers in a quarter are equal to 75 percent of the next quarter’s forecast sales. The payables period is 60 days. Wages, taxes, and other expenses are 20 percent of sales, and

> Stackhouse Industries has a new project available that requires an initial investment of $4.5 million. The project will provide unlevered cash flows of $675,000 per year for the next 20 years. The company will finance the project with a debt-to-value rat

> Rework Problem 13 assuming the following: a. Wildcat maintains a minimum cash balance of $20 million. b. Wildcat maintains a minimum cash balance of $10 million. Based on your answers in (a) and (b), do you think the firm can boost its profit by changing

> You enter into a forward contract to buy a 10-year, zero coupon bond that will be issued in one year. The face value of the bond is $1,000, and the 1-year and 11-year spot interest rates are 5 percent and 7 percent, respectively. a. What is the forward p

> You have been hired to value a new 20-year callable, convertible bond. The bond has a 5.8 percent coupon rate, payable annually. The conversion price is $150, and the stock currently sells for $32.20. The stock price is expected to grow at 12 percent per

> Sunburn Sunscreen has a zero coupon bond issue outstanding with a $25,000 face value that matures in one year. The current market value of the firm’s assets is $26,300. The standard deviation of the return on the firm’s assets is 38 percent per year, and

> It is said that the equityholders of a levered firm can be thought of as holding a call option on the firm’s assets. Explain what is meant by this statement.

> For the company in the previous problem, what is the value of being able to issue subsidized debt instead of having to issue debt at the terms it would normally receive? Assume the face amount and maturity of the debt issue are the same. Previous problem

> Wolfson Corporation has decided to purchase a new machine that costs $3.2 million. The machine will be depreciated on a straight-line basis and will be worthless after four years. The corporate tax rate is 35 percent. The Sur Bank has offered Wolfson a f

> Neon Corporation’s stock returns have a covariance with the market portfolio of .0415. The standard deviation of the returns on the market portfolio is 20 percent, and the expected market risk premium is 7.5 percent. The company has bonds outstanding wit

> Wildcat, Inc., has estimated sales (in millions) for the next four quarters as follows: Sales for the first quarter of the year after this one are projected at $120 million. Accounts receivable at the beginning of the year were $34 million. Wildcat has

> The forward price (F) of a contract on an asset with neither carrying costs nor convenience yield is the current spot price of the asset (S0) multiplied by 1, plus the appropriate interest rate between the initiation of the contract and the delivery date

> Blue Steel Community Bank has the following market value balance sheet: a. What is the duration of the assets? b. What is the duration of the liabilities? c. Is the bank immune to interest rate risk? Market Value Duration Asset or Liability (in $ mi

> For the following scenarios, describe a hedging strategy using futures contracts that might be considered. a. A public utility is concerned about rising costs. b. A candy manufacturer is concerned about rising costs. c. A corn farmer fears that this year

> The capital structure of Ricketti Enterprises, Inc., consists of 20 million shares of common stock and 1.5 million warrants. Each warrant gives its owner the right to purchase one share of common stock for an exercise price of $19. The current stock pric

> An insurance policy is considered analogous to an option. From the policyholder’s point of view, what type of option is an insurance policy? Why?

2.99

See Answer