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Solution to chapter 9 problems

 9-6 Cash \$ 100.00  2.0 = \$ 200.00 Accounts receivable 200.00  2.0 = 400.00 Inventories 200.00  2.0 = 400.00 Net fixed assets* 500.00  1.0 = 500.00 Total assets \$1,000.00 \$1,500.00 Accounts payable \$ 50.00  2 = \$ 100.00 Accruals 50.00  2 = 100.00 Notes payable 150.00 + 0 = 150.00 Long-term debt 400.00 + 0 = 400.00 Common stock 100.00 + 0 = 100.00 Retained earnings** 250.00 + 40 = 290.00 Total liabilities and equity \$1,000.00 \$1,140.00 AFN = \$ 360.00

*Capacity sales = Sales/0.5 = \$1,000/0.5 = \$2,000 with respect to existing fixed assets.

Target FA/S ratio = \$500/\$2,000 = 0.25.

Target FA = 0.25(\$2,000) = \$500 = Required FA. Since the firm currently has \$500 of fixed assets, no new fixed assets will be required.

**Addition to RE = (M)(S 1 )(1 – Payout ratio) = 0.05(\$2,000)(0.4) = \$40.

9-7

a.

AFN = (A 0 */S 0 )(S) – (L 0 */S 0 )(S) – (M)(S 1 )(1 – payout)

\$122.5

\$350

\$17.5

\$350

\$10.5

\$350

=

(\$70) –

(\$70) –

(\$420)(0.6) = \$13.44 million.

The Excel spreadsheet would look like this:

b.

• c. Upton Computers Pro Forma Balance Sheet December 31, 2013 (Millions of Dollars)

2013

 Forecast Pro Forma Basis % 2013 after 2012 2013 Sales Additions Pro Forma Financing Financing
 Cash \$ 3.5 0.0100 \$ 4.20 \$ 4.20 Receivables 26.0 0.0743 31.20 31.20 Inventories 58.0 0.1657 69.60 69.60 Total current assets \$ 87.5 \$105.00 \$105.00 Net fixed assets 35.0 0.100 42.00 42.00 Total assets \$122.5 \$147.00 \$147.00 Accounts payable \$ 9.0 0.0257 \$ 10.80 \$ 10.80 Notes payable 18.0 18.00 +13.44 31.44 Accruals 8.5 0.0243 10.20 10.20 Total current liabilities \$ 35.5 \$ 39.00 \$ 52.44 Mortgage loan 6.0 6.00 6.00 Common stock 15.0 15.00 15.00 Retained earnings 66.0 7.56* 73.56 73.56 Total liab. and equity \$122.5 \$133.56 \$147.00 AFN = \$ 13.44

Payout = \$4.2/\$10.5 = 40%. NI = \$350 1.2 0.03 = \$12.6. Addition to RE = NI – DIV = \$12.6 – 0.4(\$12.6) = 0.6(\$12.6) = \$7.56.

Solutions to chapter 11 problems

 11-9 Total corporate value = Value of operations + marketable securities = \$651 + \$47 = \$698 million. Value of equity = Total corporate value – debt – Preferred stock = \$698 – (\$65 + \$131) - \$33 = \$469 million. Price per share = \$469 / 10 = \$46.90. 11-10 a. NOPAT 2013 = \$108.6(1-0.4) = \$65.16

NOWC 2013 = (\$5.6 + \$56.2 + \$112.4) – (\$11.2 + \$28.1) = \$134.9 million.

Capital 2013 = \$134.9 + \$397.5 = \$532.4 million.

FCF 2013 = NOPAT – Investment in Capital = \$65.16 – (\$532.4 - \$502.2) = \$65.16 - \$30.2 = \$34.96 million.

• b. HV 2013 = [\$34.96(1.06)]/(0.11-0.06) = \$741.152 million.

• c. V Op at 12/31/2012 = [\$34.96 + \$741.152]/(1+0.11) = \$699.20 million.

• d. Total corporate value = \$699.20 + \$49.9 = \$749.10 million.

• e. Value of equity = \$749.10 – (\$69.9 + \$140.8) - \$35.0 = \$503.4 million. Price per share = \$503.4 / 10 = \$50.34.

Solution to chapter 15 problems

15-7

a.

Here are the steps involved:

 (1) Determine the variable cost per unit at present, V: Profit \$500,000 = P(Q) - FC - V(Q) = (\$100,000)(50) - \$2,000,000 - V(50) 50(V) = \$2,500,000 V = \$50,000. (2) Determine the new profit level if the change is made:

New profit

= P 2 (Q 2 ) - FC 2 - V 2 (Q 2 ) = \$95,000(70) - \$2,500,000 - (\$50,000 - \$10,000)(70) = \$1,350,000.

 (3) Determine the incremental profit: Profit = \$1,350,000 – \$500,000 = \$850,000. (4) Estimate the approximate rate of return on new investment:

Return = Profit/Investment = \$850,000/\$4,000,000 = 21.25%.

Since the return exceeds the 15 percent cost of equity, this analysis suggests that the firm should go ahead with the change.

• b. The change would increase the breakeven point:

 F \$2,000,000 P  V \$100,000  \$50,000 Old: Q BE = = = 40 units. \$2,500,000 \$95,000  \$40,000 New: Q BE = = 45.45 units.
• c. It is impossible to state unequivocally whether the new situation would have more or less business risk than the old one. We would need information on both the sales probability distribution and the uncertainty about variable input cost in order to make this determination. However, since a higher breakeven point, other things held constant, is more risky. Also the percentage of fixed costs increases: Old:

FC

FC

V(Q)

\$2,000,000

\$2,000,000

\$2,500,000

=

= 44.44%.

FC

• 2 \$2,500,000

New:

FC

2

V

2

(Q

2

)

\$2,500,000

\$2,800,000

=

= 47.17%.

The change in breakeven points--and also the higher percentage of fixed costs--suggests that the new situation is more risky.

15-10

a.

BEA’s unlevered beta is b U =b/(1+ (1-T)(D/S))=1.0/(1+(1-0.40)(20/80)) = 0.870.

b. b = b U (1 + (1-T)(D/S)).

At 40 percent debt: b L = 0.87 (1 + 0.6(40%/60%)) = 1.218. r S = 6 + 1.218(4) = 10.872%

• c. WACC = w d r d (1-T) + w ce r s = (0.4)(9%)(1-0.4) + (0.6)(10.872%) = 8.683%.

FCF

(EBIT)(1

T)

(\$14.933)(1

0.4)

WACC

WACC

0.08683

V =

= \$103.188 million.

b U = 0.8

r M – r RF = 6.0%

From data given in the problem and table we can develop the following table:

 Levered w d w ce D/S r d r d (1 – T) beta a r s b WACC c 0 100% 0.00 6.0% 3.60% 0.80 9.80% 9.80% 0.2 7.0% 80% 0.25 4.20% 0.92 10.52% 9.26% 0.4 8.0% 60% 0.67 4.80% 1.12 11.72% 8.95% 0.6 9.0% 40% 1.50 5.40% 1.52 14.12% 8.89% 0.8 10.0% 20% 4.00 6.00% 2.72 21.32% 9.06%

Notes:

a These beta estimates were calculated using the Hamada equation, b = b U [1 + (1 – T)(D/S)]. b These r s estimates were calculated using the CAPM, r s = r RF + (r M – r RF )b. c These WACC estimates were calculated with the following equation:

WACC = w d (r d )(1 – T) + (w ce )(r s ).

The firm’s optimal capital structure is that capital structure which minimizes the firm’s WACC. The WACC is minimized at a capital structure consisting of 60% debt and 40% equity. At that capital structure, the firm’s WACC is 8.89%.