To all Finance guys, I need help with these three questions. Looking forward to seeing many post.
-cheers
Question 1 – Weighted Cost of Capital and Leverage
A company is financed only by equity. It has shares that currently trade in Market at $6.5 per share. These shares have a beta value of 1.3, and the current risk free rate is 2.5% and the expected return from the market index is 10%. The company is currently has an earnings before taxes (and interest) (EBIT) of $25 million per year, and this is expected to continue for the foreseeable future.
the company want to include some debt financing in order to expand the company. The company wants to issue 40,000 bonds. The proceeds of the new bond issue will be used to
repurchase equity. Similar companies have issued bonds that pay a coupon rate of
$50 per year and trade for $1010 each on the bond market, and they have
maturity of 10 years. The corporate tax rate is currently 40%. Assume there are no
underwriting or floatation costs.
a) What would be the value of the original unlevered firm, both excluding and
including corporate taxes?
b) After the new restructuring plan is implemented, what is the value of the levered firm and what is the value of the firm’s equity? What would be the new cost of equity under the new structure?
c) What are the Weighted Average Cost of Capital (WACC) values for the firm,
before and after the restructuring?
Question 2 – Mergers Two firms are 100% equityâ€financed. Firm A can acquire firm B for $82,500,000 in
the form of either cash or stock. In making its decision to acquire firm B, firm A’s
financial team estimated that the synergy value of the deal will be $12,500,000.
Firm A Firm B
Number of Shares 10,000,000 7,500,000
Price per Share $25.00 $10.00
a) What is the merger premium over firm B's stock price?
b) What is the value of firm B to firm A?
c) What is the net value of the acquisition if cash is used?
d) What is the value of the postâ€merger firm following a cash acquisition?
e) What is the price per share of the postâ€merger firm following a cash acquisition?
f) What is the value of the new firm if firm B's stockholders are paid in stock?
g) How many shares will be given to firm B's stockholders in a stockâ€financed deal?
h) What will the price per share be of the postâ€merger firm if payment is made in
stock?
i) What is the cost of acquisition when stock financing is used?
j) What is the Net value of acquiring firm B to firm A when stock financing is used?
Question 3 – Dividends and Options Part A) A company follows a residual dividend policy and maintains a constant debtequity
ratio. There are 15,000 shares of stock outstanding at a market price of $10 a
share. There are 300 bonds outstanding, which are selling at par value. The
projected spending on capital projects is $180,000 for next year. Earnings for next
year are estimated at $70,000. What is the projected dividend amount per share?
Part B †You are given the following information from the option market.
Assume that today’s date is early October.
XYZ Communications Ltd †Underlying stock price: 45.80
Call Put
Strike Expiry Month Vol. Last Vol. Last
45 Oct. 91 2.80 59 .80
45 Nov. 59 4.30 54 2.30
47.50 Oct. 80 1 22 3.12
47.50 Nov. 42 2.30 20 5.25
47.50 Feb. 31 5 18 7
50 Oct. 28 .30 15 7.12
50 Nov. 23 2 12 9
a) How much would it cost to buy three November $47.50 call options and two
February $47.50 put options.
b) Looking at the February 47.50 put options, what would be the intrinsic and
time value components of the price for these options.
c) Looking at the October 47.50 put options, what would be the intrinsic and
time value components of the price for these options.
d) Based on your answers to b) and c) what factors do the time to the expiry
date and the difference between the underlying and strike prices have on
determining the value of stock options.
